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111th Congress                                              Exec. Rept.
                                 SENATE
 2d Session                                                       111-3

======================================================================



 
                       TAX CONVENTION WITH MALTA

                                _______
                                

                  June 30, 2010.--Ordered to be printed

                                _______
                                

          Mr. Kerry, from the Committee on Foreign Relations,
                        submitted the following

                                 REPORT

                    [To accompany Treaty Doc. 111-1]

    The Committee on Foreign Relations, to which was referred 
the Convention between the Government of the United States of 
America and the Government of Malta with respect to Taxes on 
Income, signed on August 8, 2008, at Valletta (the 
``Convention'') (Treaty Doc. 111-1), having considered the 
same, reports favorably thereon with one declaration, as 
indicated in the resolution of advice and consent, and 
recommends that the Senate give its advice and consent to 
ratification thereof, as set forth in this report and the 
accompanying resolution of advice and consent.

                                CONTENTS

                                                                   Page

  I. Purpose..........................................................1
 II. Background.......................................................2
III. Major Provisions.................................................2
 IV. Entry Into Force.................................................4
  V. Implementing Legislation.........................................4
 VI. Committee Action.................................................4
VII. Committee Recommendation and Comments............................5
VIII.Text of Resolution of Advice and Consent to Ratification.........6

 IX. Annex I--Technical Explanation...................................7
  X. Annex II--Transcript of Hearing Held November 10, 2009..........97

                               I. Purpose

    The purpose of the new Malta Convention is to promote and 
facilitate trade and investment between the United States and 
Malta. Principally, the Convention provides for reduced 
withholding rates on cross-border payments of dividends, 
interest, royalties, and other income, as well as the 
elimination of withholding taxes on cross-border dividend 
payments to pension funds. The Convention contains rigorous 
protections designed to protect against ``treaty shopping,'' 
which is the inappropriate use of a tax treaty by third-country 
residents, and provisions to ensure the exchange of information 
between tax authorities in both countries. While the proposed 
Convention generally follows the 2006 U.S. Model Income Tax 
Treaty (the ``U.S. Model''), it deviates from the U.S. Model in 
certain respects, including by providing enhanced protections 
against treaty shopping.

                             II. Background

    There is no income tax treaty currently in force between 
the United States and Malta. The previous U.S.-Malta tax treaty 
(signed on March 21, 1980) was terminated by the United States 
on January 1, 1997, due to concerns that changes to Maltese tax 
law provided an incentive for ``treaty shopping'' and that 
Malta was unable to satisfactorily exchange tax information. 
After Malta changed its tax law in an effort to address these 
concerns, the United States negotiated and concluded the 
Convention. While the changes to Malta's tax law were critical 
to the Treasury Department's willingness to re-engage Malta in 
a double taxation treaty, it was nonetheless deemed necessary 
to include protections against ``treaty shopping'' that go 
beyond those in the U.S. model. The Convention was signed on 
August 8, 2008.

                         III. Major Provisions

    A detailed article-by-article analysis of the Convention 
may be found in the Technical Explanation Published by the 
Department of the Treasury on November 10, 2009. In addition, 
the staff of the Joint Committee on Taxation prepared an 
analysis of the Convention, JCX-50-09 (November 6, 2009), which 
was of great assistance to the committee in reviewing the 
Convention. A summary of the key provisions of the Convention 
is set forth below.

General Scope

    Article 1 provides that the scope of the Convention would 
generally apply only to ``residents'' of the United States and 
Malta. It contains a standard ``saving clause'' pursuant to 
which each country retains the right to tax its residents and 
citizens as if the Treaty had not come into effect. This 
article also contains a standard provision providing in general 
that the Convention may not be applied to deny a taxpayer any 
benefits to which the taxpayer would be entitled under the 
domestic law of a country or under any other agreement between 
the two countries.

Covered taxes

    Pursuant to Article 2, the Convention would apply to all 
taxes on income, including gains-irrespective of the manner in 
which they are levied. Except with respect to the benefits 
provided by Article 24 (Non-Discrimination), state and local 
taxes, including property taxes, do not fall within the scope 
of the proposed treaty.

Dividends

    Articles 10 and 13 provide that dividends and certain gains 
derived by a resident of either country from sources within the 
other country (residence-country taxation) may be taxed by both 
countries. However, the proposed treaty limits the rate of 
taxation that the source country may impose on certain 
dividends paid to a resident of the other country. The 
withholding tax rates on dividends are generally consistent 
with those contained in the U.S. Model Treaty, but they 
represent a departure from the exemption from source-country 
withholding tax provided by several recent U.S. treaties and 
protocols thereto for dividends paid by subsidiaries to parent 
corporations resident in the other treaty countries.

Interest and Royalties

    Article 11 limits the rate of source-country tax that may 
be imposed on interest arising in one treaty country (the 
source country) and beneficially owned by a resident of the 
other country so that it may not exceed 10 percent of the gross 
amount of the interest. See Article 11(2). Similarly, Article 
12 provides that a royalty payment arising in a treaty country 
and beneficially owned by a resident of the other treaty 
country may be subject to a source country tax of up to 10 
percent of the gross amount of the royalty. See Article 12(2). 
These provisions differ from the corresponding rules of the 
U.S. Model Treaty, which provides an exemption from source-
country taxation for most interest and royalty payments 
beneficially owned by a resident of the other country. Although 
the U.S. Model Treaty eliminates source-country withholding tax 
on most payments of interest, royalties or other income, 
exemption from withholding tax was deemed not appropriate in 
this case, in light of Malta's unique tax system. The 
Convention therefore provides for withholding at a rate of 10 
percent on interest, royalties, and other income.

Pensions and Similar Remuneration

    Under Articles 17 and 18, pensions and similar remuneration 
paid to a resident of one country may be taxed only by that 
country and only at the time and to the extent that a pension 
distribution is made. These articles are exceptions to the rule 
permitting the residence country to tax cross-border pensions. 
Under these provisions, the residence country may not tax any 
amount of such a pension or similar remuneration that would be 
exempt from taxation in the other country if the beneficial 
owner was a resident of that other country. The other 
remuneration covered by these articles includes social security 
benefits, annuities, alimony, child support (Article 17) and 
pension funds (Article 18). As noted previously, the Convention 
would generally eliminate withholding tax on cross-border 
dividend payments to pension funds. The Convention's treatment 
of pensions differs from the U.S. Model Treaty in some 
respects. Like the U.S. Model Treaty, the Convention provides 
that pension distributions (or similar remuneration) owned by a 
resident of a contracting country are only taxable in the 
recipient's country of residence. See Article 17. In addition, 
a pension beneficiary's country of residence must exempt from 
taxation a pension amount that would be exempt from tax in the 
other country where the pension fund is established. However, 
the Convention differs from the U.S. Model Treaty in that it 
does not contain certain provisions that deal with the tax 
treatment of cross-border pension contributions. These 
provisions typically cover, among other things, the tax 
treatment of pension contributions (paid by an individual or an 
individual's employer) when an individual is a participant or 
beneficiary of a pension fund resident in one country, but 
employed in another country.

Limitation on Benefits

    Consistent with current U.S. treaty policy, Article 22 
includes a ``Limitation on Benefits'' provision, which is 
designed to avoid treaty-shopping by limiting the indirect use 
of a treaty's benefits by persons who were not intended to take 
advantage of those benefits. The limitation on benefits 
provision states that in situations in which the country of 
source retains the right under the Convention to tax income 
derived by residents of the other country, the Convention 
provides for relief from the potential double taxation through 
allowance by the country of residence of a tax credit for 
certain foreign taxes paid to the other country. This article's 
limitation on benefits provision generally reflects the anti-
treaty-shopping provisions included in the U.S. Model Treaty 
and more recent U.S. income tax treaties, but it is more 
stringent in a number of respects to ensure that third-country 
residents do not inappropriately benefit from the Convention.

Exchange of Information

    The Convention provides that the United States and Malta 
shall exchange certain tax information. Under Article 26, the 
United States is allowed to obtain such information from Malta 
regardless of whether Malta needs the information for its own 
tax purposes. Changes to Maltese tax law since the previous 
treaty was terminated, including at the request of the United 
States during the negotiating process, will facilitate the 
exchange of tax information and made it possible for Malta to 
agree to comprehensive information exchange obligations in the 
Convention. The exchange of information provision set out in 
Article 26 is substantially similar to the provision found in 
the U.S. Model Treaty.

                          IV. Entry into Force

    The Convention will enter into force on the date of the 
exchange of instruments of ratification, yet certain provisions 
will not have effect immediately. See Article 28.

                      V. Implementing Legislation

    As is the case generally with income tax treaties, the 
Convention is self-executing and does not require implementing 
legislation for the United States.

                          VI. Committee Action

    The committee held a public hearing on the Convention on 
November 10, 2009. Testimony was received from Manal Corwin, 
International Tax Counsel, U.S. Department of Treasury, and 
Thomas A. Barthold, Chief of Staff, Joint Committee on 
Taxation. The transcript of this hearing can be found in Annex 
II.
    On April 13, 2010, the committee considered the Convention 
and ordered it favorably reported by voice vote, with a quorum 
present and without objection.

                        VII. Committee Comments

    The Committee on Foreign Relations believes that the 
Convention will stimulate increased trade and investment, 
reduce treaty-shopping incentives, and promote closer co-
operation between the United States and Malta. The committee 
therefore urges the Senate to act promptly to give advice and 
consent to ratification of the Convention, as set forth in this 
report and the accompanying resolution of advice and consent.

                       A. LIMITATION ON BENEFITS

    As noted above, the previous U.S.-Malta tax treaty was 
terminated by the United States on January 1, 1997, in large 
part due to provisions of Maltese domestic law that created 
strong incentives for treaty-shopping. Such abuses may 
undermine the integrity of a bilateral tax relationship, and 
the committee applauds the Treasury Department's significant 
efforts to address treaty shopping both in this Convention and 
in other bilateral tax treaties.
    After careful examination of this Convention, as well as 
testimony and responses to questions for the record from the 
Treasury Department, the committee is of the view that the 
Convention's protections against treaty-shopping are robust and 
will substantially deny treaty shoppers the benefit of the 
Convention. The limitation on benefits provision, Article 22, 
is more restrictive than that in the 2006 U.S. Model tax treaty 
or in any existing U.S. tax treaty. In conjunction with this 
extensive limitation on benefits provision, the Convention 
contains relatively high rates for source country taxation of 
dividends, interest, and royalties, which will make the 
Convention less attractive to treaty shoppers. These issues are 
addressed in more detail in the Treasury Department's responses 
to questions for the record, which are included in the hearing 
record appended to this report beginning at page 131. The 
committee believes that it is critical for the Treasury 
Department to closely monitor and keep the committee informed 
on the effectiveness of the above-mentioned provisions in 
discouraging and eliminating treaty-shopping under the 
Convention.

              B. DECLARATION ON THE SELF-EXECUTING NATURE 
                           OF THE CONVENTION

    The committee has included one declaration in the 
recommended resolution of advice and consent. The declaration 
states that the Convention is self-executing, as is the case 
generally with income tax treaties. Prior to the 110th 
Congress, the committee generally included such statements in 
the committee's report, but in light of the Supreme Court 
decision in Medellin v. Texas, 128 S. Ct. 1346 (2008), the 
committee determined that a clear statement in the Resolution 
is warranted. A further discussion of the committee's views on 
this matter can be found in Section VIII of Executive Report 
110-12.

     VIII. Text of Resolution of Advice and Consent to Ratification

    Resolved (two-thirds of the Senators present concurring 
therein),

SECTION 1. SENATE ADVICE AND CONSENT SUBJECT TO A DECLARATION

    The Senate advises and consents to the ratification of the 
Convention Between the Government of the United States of 
America and the Government of Malta for the Avoidance of Double 
Taxation and the Prevention of Fiscal Evasion with Respect to 
Taxes on Income, signed on August 8, 2008, at Valletta (the 
``Convention'') (Treaty Doc. 111-1), subject to the declaration 
of section 2.

SECTION 2. DECLARATION

    The advice and consent of the Senate under section 1 is 
subject to the following declaration:
    The Convention is self-executing.
                   IX. Annex I--Technical Explanation

                              ----------                              


  Department of the Treasury Technical Explanation of the Convention 
    Between the Government of the United States of America and the 
   Government of Malta for the Avoidance of Double Taxation and the 
Prevention of Fiscal Evasion With Respect to Taxes on Income Signed at 
                       Valletta on August 8, 2008

    This is a technical explanation of the Convention between 
the Government of the United States and the Government of Malta 
For the Avoidance Of Double Taxation and the Prevention of 
Fiscal Evasion with Respect to Taxes on Income, signed on 
August 8, 2008 (the ``Convention'').
    Negotiations took into account the U.S. Treasury 
Department's current tax treaty policy, and the Treasury 
Department's Model Income Tax Convention. Negotiations also 
took into account the Model Tax Convention on Income and on 
Capital, published by the Organisation for Economic Cooperation 
and Development (the ``OECD Model''), and recent tax treaties 
concluded by both countries.
    The Technical Explanation is an official guide to the 
Convention. It reflects the policies behind particular 
Convention provisions, as well as understandings reached during 
the negotiations with respect to the application and 
interpretation of the Convention. References in the Technical 
Explanation to ``he'' or ``his'' should be read to mean ``he or 
she'' or ``his and her.''

                       ARTICLE 1 (GENERAL SCOPE)

Paragraph 1
    Paragraph 1 of Article 1 provides that the Convention 
applies only to residents of the United States or Malta except 
where the terms of the Convention provide otherwise. Under 
Article 4 (Resident) a person is generally treated as a 
resident of a Contracting State if that person is, under the 
laws of that State, liable to tax therein by reason of his 
domicile, citizenship, residence, or other similar criteria. 
However, if a person is considered a resident of both 
Contracting States, Article 4 provides rules for determining a 
State of residence (or no State of residence). This 
determination governs for all purposes of the Convention.
    Certain provisions are applicable to persons who may not be 
residents of either Contracting State. For example, paragraph 1 
of Article 24 (Non-Discrimination) applies to nationals of the 
Contracting States. Under Article 26 (Exchange of Information 
and Administrative Assistance), information may be exchanged 
with respect to residents of third states.
Paragraph 2
    Paragraph 2 states the generally accepted relationship both 
between the Convention and domestic law and between the 
Convention and other agreements between the Contracting States. 
That is, no provision in the Convention may restrict any 
exclusion, exemption, deduction, credit or other benefit 
accorded by the tax laws of the Contracting States, or by any 
other agreement between the Contracting States. The 
relationship between the non-discrimination provisions of the 
Convention and the General Agreement on Trade in Services (the 
``GATS'') is addressed in paragraph 3.
    Under paragraph 2, for example, if a deduction would be 
allowed under the U.S. Internal Revenue Code (the ``Code'') in 
computing the U.S. taxable income of a resident of Malta, the 
deduction also is allowed to that person in computing taxable 
income under the Convention. Paragraph 2 also means that the 
Convention may not increase the tax burden on a resident of a 
Contracting States beyond the burden determined under domestic 
law. Thus, a right to tax given by the Convention cannot be 
exercised unless that right also exists under internal law.
    It follows that, under the principle of paragraph 2, a 
taxpayer's U.S. tax liability need not be determined under the 
Convention if the Code would produce a more favorable result. A 
taxpayer may not, however, choose among the provisions of the 
Code and the Convention in an inconsistent manner in order to 
minimize tax. Thus, a taxpayer may use the Convention to reduce 
its taxable income, but may not use both treaty and Code rules 
where doing so would thwart the intent of either set of rules. 
For example, assume that a resident of Malta has three separate 
businesses in the United States. One is a profitable permanent 
establishment and the other two are trades or businesses that 
would earn taxable income under the Code but that do not meet 
the permanent establishment threshold tests of the Convention. 
One is profitable and the other incurs a loss. Under the 
Convention, the income of the permanent establishment is 
taxable in the United States, and both the profit and loss of 
the other two businesses are ignored. Under the Code, all three 
would be subject to tax, but the loss would offset the profits 
of the two profitable ventures. The taxpayer may not invoke the 
Convention to exclude the profits of the profitable trade or 
business and invoke the Code to claim the loss of the loss 
trade or business against the profit of the permanent 
establishment. (See Rev. Rul. 84-17, 1984-1 C.B. 308.) If, 
however, the taxpayer invokes the Code for the taxation of all 
three ventures, he would not be precluded from invoking the 
Convention with respect, for example, to any dividend income he 
may receive from the United States that is not effectively 
connected with any of his business activities in the United 
States.
    Similarly, nothing in the Convention can be used to deny 
any benefit granted by any other agreement between the United 
States and Malta. For example, if certain benefits are provided 
for military personnel or military contractors under a Status 
of Forces Agreement between the United States and Malta, those 
benefits or protections will be available to residents of the 
Contracting States regardless of any provisions to the contrary 
(or silence) in the Convention.
Paragraph 3
    Paragraph 3 specifically relates to non-discrimination 
obligations of the Contracting States under the GATS. The 
provisions of paragraph 3 are an exception to the rule provided 
in paragraph 2 of this Article under which the Convention shall 
not restrict in any manner any benefit now or hereafter 
accorded by any other agreement between the Contracting States.
    Subparagraph (a) of paragraph 3 provides that, unless the 
competent authorities determine that a taxation measure is not 
within the scope of the Convention, the national treatment 
obligations of the GATS shall not apply with respect to that 
measure. Further, any question arising as to the interpretation 
of the Convention, including in particular whether a measure is 
within the scope of the Convention shall be considered only by 
the competent authorities of the Contracting States, and the 
procedures under the Convention exclusively shall apply to the 
dispute. Thus, paragraph 3 of Article XXII (Consultation) of 
the GATS may not be used to bring a dispute before the World 
Trade Organization unless the competent authorities of both 
Contracting States have determined that the relevant taxation 
measure is not within the scope of Article 24 (Non-
Discrimination) of the Convention.
    The term ``measure'' for these purposes is defined broadly 
in subparagraph (b) of paragraph 3. It would include, for 
example, a law, regulation, rule, procedure, decision, 
administrative action or guidance, or any other form of 
measure.
Paragraph 4
    Paragraph 4 contains the traditional saving clause found in 
all U.S. treaties. The Contracting States reserve their rights, 
except as provided in paragraph 5, to tax their residents and 
citizens as provided in their internal laws, notwithstanding 
any provisions of the Convention to the contrary. For example, 
if a resident of Malta performs professional services in the 
United States and the income from the services is not 
attributable to a permanent establishment in the United States, 
Article 7 (Business Profits) would by its terms prevent the 
United States from taxing the income. If, however, the resident 
of Malta is also a citizen of the United States, the saving 
clause permits the United States to include the remuneration in 
the worldwide income of the citizen and subject it to tax under 
the normal Code rules (i.e., without regard to Code section 
894(a)). However, subparagraph 5(a) of Article 1 preserves the 
benefits of special foreign tax credit rules applicable to the 
U.S. taxation of certain U.S. income of its citizens resident 
in Malta. See paragraph 4 of Article 23 (Relief from Double 
Taxation).
    For purposes of the saving clause, ``residence'' is 
determined under Article 4 (Resident). Thus, an individual who 
is a resident of the United States under the Code (but not a 
U.S. citizen) but who is determined to be a resident of the 
other Contracting State under the tie-breaker rules of Article 
4 would be subject to U.S. tax only to the extent permitted by 
the Convention. The United States would not be permitted to 
apply its statutory rules to that person to the extent the 
rules are inconsistent with the treaty.
    However, the person would be treated as a U.S. resident for 
U.S. tax purposes other than determining the individual's U.S. 
tax liability. For example, in determining under Code section 
957 whether a foreign corporation is a controlled foreign 
corporation, shares in that corporation held by the individual 
would be considered to be held by a U.S. resident. As a result, 
other U.S. citizens or residents might be deemed to be United 
States shareholders of a controlled foreign corporation subject 
to current inclusion of Subpart F income recognized by the 
corporation. See, Treas. Reg. section 301.7701(b)-7(a)(3).
    Under paragraph 4, each Contracting State also reserves its 
right to tax former citizens and former long-term residents for 
a period of ten years following the loss of such status. Thus, 
paragraph 4 allows the United States to tax former U.S. 
citizens and former U.S. long-term residents in accordance with 
Section 877 of the Code. Section 877 generally applies to a 
former citizen or long-term resident of the United States who 
relinquishes citizenship or terminates long-term residency 
before June 17, 2008 if he fails to certify that he has 
complied with U.S. tax laws during the 5 preceding years, or if 
either of the following criteria exceed established thresholds: 
(a) the average annual net income tax of such individual for 
the period of 5 taxable years ending before the date of the 
loss of status, or (b) the net worth of such individual as of 
the date of the loss of status.
    The United States defines ``long-term resident'' as an 
individual (other than a U.S. citizen) who is a lawful 
permanent resident of the United States in at least 8 of the 
prior 15 taxable years. An individual is not treated as a 
lawful permanent resident for any taxable year in which the 
individual is treated as a resident of Malta under this 
Convention, or as a resident of any country other than the 
United States under the provisions of any other U.S. tax 
treaty, and the individual does not waive the benefits of the 
relevant tax treaty.
Paragraph 5
    Paragraph 5 sets forth certain exceptions to the saving 
clause. The referenced provisions are intended to provide 
benefits to citizens and residents even if such benefits do not 
exist under internal law. Paragraph 5 thus preserves these 
benefits for citizens and residents of the Contracting States.
    Subparagraph (a) lists certain provisions of the Convention 
that are applicable to all citizens and residents of a 
Contracting State, despite the general saving clause rule of 
paragraph 4:
          (1) Paragraph 2 of Article 9 (Associated Enterprises) 
        grants the right to a correlative adjustment with 
        respect to income tax due on profits reallocated under 
        Article 9.
          (2) Paragraphs 1(b), 2, and 5 of Article 17 
        (Pensions, Social Security, Annuities, Alimony and 
        Child Support) provide exemptions from source or 
        residence State taxation for certain pension 
        distributions, social security payments and child 
        support.
          (3) Article 18 (Pensions Funds) provides an exemption 
        for certain investment income of pension funds located 
        in the other Contracting State.
          (4) Article 23 (Relief from Double Taxation) confirms 
        to citizens and residents of one Contracting State the 
        benefit of a credit for income taxes paid to the other 
        or an exemption for income earned in the other State.
          (5) Article 24 (Non-Discrimination) protects 
        residents and nationals of one Contracting State 
        against the adoption of certain discriminatory taxation 
        practices in the other Contracting State.
          (6) Article 25 (Mutual Agreement Procedure) confers 
        certain benefits on citizens and residents of the 
        Contracting States in order to reach and implement 
        solutions to disputes between the two Contracting 
        States. For example, the competent authorities are 
        permitted to use a definition of a term that differs 
        from an internal law definition. The statute of 
        limitations may be waived for refunds, so that the 
        benefits of an agreement may be implemented.
    Subparagraph (b) of paragraph 5 provides a different set of 
exceptions to the saving clause. The benefits referred to are 
all intended to be granted to temporary residents of a 
Contracting State (for example, in the case of the United 
States, holders of non-immigrant visas), but not to citizens or 
to persons who have acquired permanent residence in that State. 
If beneficiaries of these provisions travel from one of the 
Contracting States to the other, and remain in the other long 
enough to become residents under its internal law, but do not 
acquire permanent residence status (i.e., in the U.S. context, 
they do not become ``green card'' holders) and are not citizens 
of that State, the host State will continue to grant these 
benefits even if they conflict with the statutory rules. The 
benefits preserved by this paragraph are the host country 
exemptions for government service salaries and pensions under 
Article 19 (Government Service), certain income of visiting 
students and trainees under Article 20 (Students and Trainees), 
and the income of diplomatic agents and consular officers under 
Article 27 (Members of Diplomatic Missions and Consular Posts).
Paragraph 6
    Paragraph 6 addresses special issues presented by fiscally 
transparent entities such as partnerships and certain estates 
and trusts. Because countries may take different views as to 
when an entity is fiscally transparent, the risk of both double 
taxation and double non-taxation is relatively high. The 
intention of paragraph 6 is to eliminate a number of technical 
problems that arguably would have prevented investors using 
such entities from claiming treaty benefits, even though such 
investors would be subject to tax on the income derived through 
such entities. The provision also prevents the use of such 
entities to claim treaty benefits in circumstances where the 
person investing through such an entity is not subject to tax 
on the income in its State of residence. The provision, and the 
corresponding requirements of the substantive rules of Articles 
6 through 21, should be read with those two goals in mind.
    In general, paragraph 6 relates to entities that are not 
subject to tax at the entity level, as distinct from entities 
that are subject to tax, but with respect to which tax may be 
relieved under an integrated system. This paragraph applies to 
any resident of a Contracting State who is entitled to income 
derived through an entity that is treated as fiscally 
transparent under the laws of either Contracting State. 
Entities falling under this description in the United States 
include partnerships, common investment trusts under section 
584, and grantor trusts. This paragraph also applies to U.S. 
limited liability companies (``LLCs'') that are treated as 
partnerships or as disregarded entities for U.S. tax purposes.
    Under paragraph 6, an item of income, profit or gain 
derived by such a fiscally transparent entity will be 
considered to be derived by a resident of a Contracting State 
if a resident is treated under the taxation laws of that State 
as deriving the item of income. For example, if a company that 
is a resident of Malta pays interest to an entity that is 
treated as fiscally transparent for U.S. tax purposes, the 
interest will be considered derived by a resident of the U.S. 
only to the extent that the taxation laws of the United States 
treats one or more U.S. residents (whose status as U.S. 
residents is determined, for this purpose, under U.S. tax law) 
as deriving the interest for U.S. tax purposes. In the case of 
a partnership, the persons who are, under U.S. tax laws, 
treated as partners of the entity would normally be the persons 
whom the U.S. tax laws would treat as deriving the interest 
income through the partnership. Also, it follows that persons 
whom the United States treats as partners but who are not U.S. 
residents for U.S. tax purposes may not claim a benefit for the 
interest paid to the entity under the Convention, because they 
are not residents of the United States for purposes of claiming 
this treaty benefit. (If, however, the country in which they 
are treated as resident for tax purposes, as determined under 
the laws of that country, has an income tax convention with 
Malta, they may be entitled to claim a benefit under that 
convention.) In contrast, if, for example, an entity is 
organized under U.S. laws and is classified as a corporation 
for U.S. tax purposes, interest paid by a company that is a 
resident of Malta to the U.S. entity will be considered derived 
by a resident of the United States since the U.S. corporation 
is treated under U.S. taxation laws as a resident of the United 
States and as deriving the income.
    The same result obtains even if the entity were viewed 
differently under the tax laws of Malta (e.g., as not fiscally 
transparent in the first example above where the entity is 
treated as a partnership for U.S. tax purposes). Similarly, the 
characterization of the entity in a third country is also 
irrelevant, even if the entity is organized in that third 
country. The results follow regardless of whether the entity is 
disregarded as a separate entity under the laws of one 
jurisdiction but not the other, such as a single owner entity 
that is viewed as a branch for U.S. tax purposes and as a 
corporation for tax purposes under the laws of Malta. These 
results also obtain regardless of where the entity is organized 
(i.e., in the United States, in Malta or, as noted above, in a 
third country).
    For example, income from U.S. sources received by an entity 
organized under the laws of the United States, which is treated 
for tax purposes under the laws of Malta as a corporation and 
is owned by a shareholder who is a resident of Malta for its 
tax purposes, is not considered derived by the shareholder of 
that corporation even if, under the tax laws of the United 
States, the entity is treated as fiscally transparent. Rather, 
for purposes of the treaty, the income is treated as derived by 
the U.S. entity.
    These principles also apply to trusts to the extent that 
they are fiscally transparent in either Contracting State. For 
example, if X, a resident of Malta, creates a revocable trust 
in the United States and names persons resident in a third 
country as the beneficiaries of the trust, the trust's income 
would be regarded as being derived by a resident of Malta only 
to the extent that the laws of Malta treat X as deriving the 
income for its tax purposes, perhaps through application of 
rules similar to the U.S. ``grantor trust'' rules.
    Paragraph 6 is not an exception to the saving clause of 
paragraph 4. Accordingly, paragraph 6 does not prevent a 
Contracting State from taxing an entity that is treated as a 
resident of that State under its tax law. For example, if a 
U.S. LLC with members who are residents of Malta elects to be 
taxed as a corporation for U.S. tax purposes, the United States 
will tax that LLC on its worldwide income on a net basis, 
without regard to whether Malta views the LLC as fiscally 
transparent.

                       ARTICLE 2 (TAXES COVERED)

    This Article specifies the U.S. taxes and the taxes of 
Malta to which the Convention applies. With two exceptions, the 
taxes specified in Article 2 are the covered taxes for all 
purposes of the Convention. A broader coverage applies, 
however, for purposes of Articles 24 (Non-Discrimination) and 
26 (Exchange of Information and Administrative Assistance). 
Article 24 (Non-Discrimination) applies with respect to all 
taxes, including those imposed by state and local governments. 
Article 26 (Exchange of Information and Administrative 
Assistance) applies with respect to all taxes imposed at the 
national level.
Paragraph 1
    Paragraph 1 identifies the category of taxes to which the 
Convention applies. Paragraph 1 is based on the U.S. and OECD 
Models and defines the scope of application of the Convention. 
The Convention applies to taxes on income, including gains, 
imposed on behalf of a Contracting State, irrespective of the 
manner in which they are levied. Except with respect to Article 
24 (Non-Discrimination), state and local taxes are not covered 
by the Convention.
Paragraph 2
    Paragraph 2 also is based on the U.S. and OECD Models and 
provides a definition of taxes on income and on capital gains. 
The Convention covers taxes on total income or any part of 
income and includes tax on gains derived from the alienation of 
property. The Convention does not apply, however, to social 
security charges, or any other charges where there is a direct 
connection between the levy and individual benefits. Nor does 
it apply to property taxes, except with respect to Article 24 
(Non-Discrimination).
Paragraph 3
    Paragraph 3 lists the taxes in force at the time of 
signature of the Convention to which the Convention applies.
    The existing covered taxes of Malta are identified in 
subparagraph 3(a) as the income tax.
    Subparagraph 3(b) provides that the existing U.S. taxes 
subject to the rules of the Convention are the Federal income 
taxes imposed by the Code, together with the excise taxes 
imposed with respect to private foundations (Code sections 4940 
through 4948). Social security and unemployment taxes (Code 
sections 1401, 3101, 3111 and 3301) are specifically excluded 
from coverage.
Paragraph 4
    Under paragraph 4, the Convention will apply to any taxes 
that are identical, or substantially similar, to those 
enumerated in paragraph 3, and which are imposed in addition 
to, or in place of, the existing taxes after August 8, 2008, 
the date of signature of the Convention. The paragraph also 
provides that the competent authorities of the Contracting 
States will notify each other of any changes that have been 
made in their laws, whether tax laws or non-tax laws, that 
affect significantly their obligations under the Convention. 
Non-tax laws that may affect a Contracting State's obligations 
under the Convention may include, for example, laws affecting 
bank secrecy.

                    ARTICLE 3 (GENERAL DEFINITIONS)

    Article 3 provides general definitions and rules of 
interpretation applicable throughout the Convention. Certain 
other terms are defined in other articles of the Convention. 
For example, the term ``resident of a Contracting State'' is 
defined in Article 4 (Resident). The term ``permanent 
establishment'' is defined in Article 5 (Permanent 
Establishment). These definitions are used consistently 
throughout the Convention. Other terms, such as ``dividends,'' 
``interest'' and ``royalties'' are defined in specific articles 
for purposes only of those articles.
Paragraph 1
    Paragraph 1 defines a number of basic terms used in the 
Convention. The introduction to paragraph 1 makes clear that 
these definitions apply for all purposes of the Convention, 
unless the context requires otherwise. This latter condition 
allows flexibility in the interpretation of the treaty in order 
to avoid results not intended by the treaty's negotiators.
    Subparagraph 1(a) defines the term ``person'' to include an 
individual, a trust, a partnership, a company and any other 
body of persons. The definition is significant for a variety of 
reasons. For example, under Article 4, only a ``person'' can be 
a ``resident'' and therefore eligible for most benefits under 
the treaty. Also, all ``persons'' are eligible to claim relief 
under Article 25 (Mutual Agreement Procedure).
    The term ``company'' is defined in subparagraph 1(b) as a 
body corporate or an entity treated as a body corporate for tax 
purposes in the state where it is organized. The definition 
refers to the law of the state in which an entity is organized 
in order to ensure that an entity that is treated as fiscally 
transparent in its country of residence will not get 
inappropriate benefits, such as the reduced withholding rate 
provided by subparagraph 2(a)(i) of Article 10 (Dividends). It 
also ensures that the Limitation on Benefits provisions of 
Article 22 will be applied at the appropriate level.
    The terms ``enterprise of a Contracting State'' and 
``enterprise of the other Contracting State'' are defined in 
subparagraph 1(c) as an enterprise carried on by a resident of 
a Contracting State and an enterprise carried on by a resident 
of the other Contracting State. An enterprise of a Contracting 
State need not be carried on in that State. It may be carried 
on in the other Contracting State or a third state (e.g., a 
U.S. corporation doing all of its business in the other 
Contracting State would still be a U.S. enterprise).
    Subparagraph 1(c) further provides that these terms also 
encompass an enterprise conducted through an entity (such as a 
partnership) that is treated as fiscally transparent in the 
Contracting State where the entity's owner is resident. The 
definition makes this point explicitly to ensure that the 
purpose of the Convention is not thwarted by an overly 
technical application of the term ``enterprise of a Contracting 
State'' to activities carried on through partnerships and 
similar entities. In accordance with Article 4 (Resident), 
entities that are fiscally transparent in the country in which 
their owners are resident are not considered to be residents of 
a Contracting State (although income derived by such entities 
may be taxed as the income of a resident, if taxed in the hands 
of resident partners or other owners). It could be argued that 
an enterprise conducted by such an entity is not conducted by a 
resident of a Contracting State, and therefore would not 
benefit from provisions applicable to enterprises of a 
Contracting State. The definition is intended to make clear 
that an enterprise conducted by such an entity will be treated 
as carried on by a resident of a Contracting State to the 
extent its partners or other owners are residents. This 
approach is consistent with the Code, which under section 875 
attributes a trade or business conducted by a partnership to 
its partners and a trade or business conducted by an estate or 
trust to its beneficiaries.
    Subparagraph (d) defines the term ``enterprise'' as any 
activity or set of activities that constitutes the carrying on 
of a business. The term ``business'' is not defined, but 
subparagraph (e) provides that it includes the performance of 
professional services and other activities of an independent 
character. Both subparagraphs are identical to definitions 
added to the OECD Model in connection with the deletion of 
Article 14 (Independent Personal Services) from the OECD Model. 
The inclusion of the two definitions is intended to clarify 
that income from the performance of professional services or 
other activities of an independent character is dealt with 
under Article 7 (Business Profits) and not Article 21 (Other 
Income).
    Subparagraph 1(f) defines the term ``international 
traffic.'' The term means any transport by a ship or aircraft 
except when such transport is solely between places within a 
Contracting State. This definition is applicable principally in 
the context of Article 8 (Shipping and Air Transport). The 
definition combines with paragraphs 2 and 3 of Article 8 to 
exempt from tax by the source State income from the rental of 
ships or aircraft that is earned both by lessors that are 
operators of ships and aircraft and by those lessors that are 
not (e.g., a bank or a container leasing company).
    The exclusion from international traffic of transport 
solely between places within a Contracting State means, for 
example, that carriage of goods or passengers solely between 
New York and Chicago would not be treated as international 
traffic, whether carried by a U.S. or a foreign carrier. The 
substantive taxing rules of the Convention relating to the 
taxation of income from transport, principally Article 8 
(Shipping and Air Transport), therefore, would not apply to 
income from such carriage. Thus, if the carrier engaged in 
internal U.S. traffic were a resident of Malta (assuming that 
were possible under U.S. law), the United States would not be 
required to exempt the income from that transport under Article 
8. The income would, however, be treated as business profits 
under Article 7 (Business Profits), and therefore would be 
taxable in the United States only if attributable to a U.S. 
permanent establishment of the foreign carrier, and then only 
on a net basis. The gross basis U.S. tax imposed by section 887 
would never apply under the circumstances described. If, 
however, goods or passengers are carried by a carrier resident 
in Malta from a non-U.S. port to, for example, New York, and 
some of the goods or passengers continue on to Chicago, the 
entire transport would be international traffic. This would be 
true if the international carrier transferred the goods at the 
U.S. port of entry from a ship to a land vehicle, from a ship 
to a lighter, or even if the overland portion of the trip in 
the United States was handled by an independent carrier under 
contract with the original international carrier, so long as 
both parts of the trip were reflected in original bills of 
lading. For this reason, the Convention, following the U.S. 
Model, refers, in the definition of ``international traffic,'' 
to ``such transport'' being solely between places in the other 
Contracting State, while the OECD Model refers to the ship or 
aircraft being operated solely between such places. The 
formulation in the Convention is intended to make clear that, 
as in the above example, even if the goods are carried on a 
different aircraft for the internal portion of the 
international voyage than is used for the overseas portion of 
the trip, the definition applies to that internal portion as 
well as the external portion.
    Finally, a ``cruise to nowhere,'' i.e., a cruise beginning 
and ending in a port in the same Contracting State with no 
stops in a foreign port, would not constitute international 
traffic.
    Subparagraph 1(g) designates the ``competent authorities'' 
for the other Contracting State and the United States. The U.S. 
competent authority is the Secretary of the Treasury or his 
delegate. The Secretary of the Treasury has delegated the 
competent authority function to the Commissioner of Internal 
Revenue, who in turn has delegated the authority to the Deputy 
Commissioner (International) LMSB. With respect to 
interpretative issues, the Deputy Commissioner (International) 
LMSB acts with the concurrence of the Associate Chief Counsel 
(International) of the Internal Revenue Service. In the case of 
Malta, the competent authority is the Minister responsible for 
finance or his authorized representative.
    The geographical scope of the Convention with respect to 
the United States is set out in subparagraph 1(h). It 
encompasses the United States of America, including the states, 
the District of Columbia and the territorial sea of the United 
States. The term does not include Puerto Rico, the Virgin 
Islands, Guam or any other U.S. possession or territory. For 
certain purposes, the term ``United States'' includes the sea 
bed and subsoil of undersea areas adjacent to the territorial 
sea of the United States. This extension applies to the extent 
that the United States exercises sovereignty in accordance with 
international law for the purpose of natural resource 
exploration and exploitation of such areas. This extension of 
the definition applies, however, only if the person, property 
or activity to which the Convention is being applied is 
connected with such natural resource exploration or 
exploitation. Thus, it would not include any activity involving 
the sea floor of an area over which the United States exercised 
sovereignty for natural resource purposes if that activity was 
unrelated to the exploration and exploitation of natural 
resources. This result is consistent with the result that would 
be obtained under Section 638, which treats the continental 
shelf as part of the United States for purposes of natural 
resource exploration and exploitation.
    The geographical scope of the Convention with respect to 
Malta is set out in subparagraph 1(i). The term ``Malta'' means 
the Republic of Malta and, when used in a geographical sense, 
means the island of Malta, the Island of Gozo, and the other 
islands of the Maltese archipelago including the territorial 
waters thereof as well as any area of the sea-bed, it's sub-
soil and the superjacent water column adjacent to the 
territorial waters, where the Republic of Malta exercises 
sovereign rights, jurisdiction or control in accordance with 
international law and its national law, including its 
legislation relating to the exploration of the Continental 
Shelf and exploitation of its natural resources.
    The term ``national,'' as it relates to the United States 
and to Malta, is defined in subparagraph 1(j). This term is 
relevant for purposes of Articles 19 (Government Service) and 
24 (Non-Discrimination). A national of one of the Contracting 
States is (1) an individual who is a citizen or national of 
that State, and (2) any legal person, partnership or 
association deriving its status, as such, from the law in force 
in the State where it is established.
    Subparagraph (k) defines the term ``pension fund'' to 
include any person established in a Contracting State that, in 
the case of the United States, is generally exempt from income 
taxation, and in the case of Malta, is a licensed fund or 
scheme subject to tax only on income derived from immovable 
property situated in Malta, and that is operated principally to 
provide pension or retirement benefits or to earn income for 
the benefit of one or more such arrangements. In the case of 
the United States, the term ``pension fund'' includes the 
following: a trust providing pension or retirement benefits 
under a Code section 401(a) qualified pension plan, profit 
sharing or stock bonus plan, Code section 403(a) qualified 
annuity plan, a Code section 403(b) plan, a trust that is an 
individual retirement account under Code section 408, a Roth 
individual retirement account under Code section 408A, or a 
simple retirement account under Code section 408(p), a trust 
providing pension or retirement benefits under a simplified 
employee pension plan under Code section 408(k), a trust 
described in section 457(g) providing pension or retirement 
benefits under a Code section 457(b) plan, and the Thrift 
Savings Fund (section 7701(j)). Section 401(k) plans and group 
trusts described in Revenue Ruling 81-100 and meeting the 
conditions of Revenue Ruling 2004-67 qualify as pension funds 
to the extent that they are Code section 401(a) plans and other 
pension funds.
Paragraph 2
    Terms that are not defined in the Convention are dealt with 
in paragraph 2.
    Paragraph 2 provides that in the application of the 
Convention, any term used but not defined in the Convention 
will have the meaning that it has under the law of the 
Contracting State whose tax is being applied, unless the 
context requires otherwise, or the competent authorities have 
agreed on a different meaning pursuant to Article 25 (Mutual 
Agreement Procedure). If the term is defined under both the tax 
and non-tax laws of a Contracting State, the definition in the 
tax law will take precedence over the definition in the non-tax 
laws. Finally, there also may be cases where the tax laws of a 
State contain multiple definitions of the same term. In such a 
case, the definition used for purposes of the particular 
provision at issue, if any, should be used.
    If the meaning of a term cannot be readily determined under 
the law of a Contracting State, or if there is a conflict in 
meaning under the laws of the two States that creates 
difficulties in the application of the Convention, the 
competent authorities, as indicated in paragraph 3(c)(iv) of 
Article 25 (Mutual Agreement Procedure), may establish a common 
meaning in order to prevent double taxation or to further any 
other purpose of the Convention. This common meaning need not 
conform to the meaning of the term under the laws of either 
Contracting State.
    The reference in paragraph 2 to the internal law of a 
Contracting State means the law in effect at the time the 
treaty is being applied, not the law as in effect at the time 
the treaty was signed. The use of ``ambulatory'' definitions, 
however, may lead to results that are at variance with the 
intentions of the negotiators and of the Contracting States 
when the treaty was negotiated and ratified. The reference in 
both paragraphs 1 and 2 to the ``context otherwise 
requir[ing]'' a definition different from the treaty 
definition, in paragraph 1, or from the internal law definition 
of the Contracting State whose tax is being imposed, under 
paragraph 2, refers to a circumstance where the result intended 
by the Contracting States is different from the result that 
would obtain under either the paragraph 1 definition or the 
statutory definition. Thus, flexibility in defining terms is 
necessary and permitted.

                          ARTICLE 4 (RESIDENT)

    This Article sets forth rules for determining whether a 
person is a resident of a Contracting State for purposes of the 
Convention. As a general matter only residents of the 
Contracting States may claim the benefits of the Convention. 
The treaty definition of residence is to be used only for 
purposes of the Convention. The fact that a person is 
determined to be a resident of a Contracting State under 
Article 4 does not necessarily entitle that person to the 
benefits of the Convention. In addition to being a resident, a 
person also must qualify for benefits under Article 22 
(Limitation on Benefits) in order to receive benefits conferred 
on residents of a Contracting State.
    The determination of residence for treaty purposes looks 
first to a person's liability to tax as a resident under the 
respective taxation laws of the Contracting States. As a 
general matter, a person who, under those laws, is a resident 
of one Contracting State and not of the other need look no 
further. For purposes of the Convention, that person is a 
resident of the State in which he is resident under internal 
law. If, however, a person is resident in both Contracting 
States under their respective taxation laws, the Article 
proceeds, where possible, to use tie-breaker rules to assign a 
single State of residence to such a person for purposes of the 
Convention.
Paragraph 1
    The term ``resident of a Contracting State'' is defined in 
paragraph 1. In general, this definition incorporates the 
definitions of residence in U.S. law and that of Malta by 
referring to a resident as a person who, under the laws of a 
Contracting State, is subject to tax there by reason of his 
domicile, residence, citizenship, place of management, place of 
incorporation or any other similar criterion. Thus, residents 
of the United States include aliens who are considered U.S. 
residents under Code section 7701(b). Paragraph 1 also 
specifically includes the two Contracting States, and political 
subdivisions and local authorities of the two States, as 
residents for purposes of the Convention.
    Certain entities that are nominally subject to tax but that 
in practice are rarely required to pay tax also would generally 
be treated as residents and therefore accorded treaty benefits. 
For example, a U.S. Regulated Investment Company (RIC) and a 
U.S. Real Estate Investment Trust (REIT) are residents of the 
United States for purposes of the treaty. Although the income 
earned by these entities normally is not subject to U.S. tax in 
the hands of the entity, they are taxable to the extent that 
they do not currently distribute their profits, and therefore 
may be regarded as liable to tax. They also must satisfy a 
number of requirements under the Code in order to be entitled 
to special tax treatment.
    A person who is liable to tax in a Contracting State only 
in respect of income from sources within that State or capital 
situated therein or of profits attributable to a permanent 
establishment in that State will not be treated as a resident 
of that Contracting State for purposes of the Convention. Thus, 
a consular official of Malta who is posted in the United 
States, who may be subject to U.S. tax on U.S. source 
investment income, but is not taxable in the United States on 
non-U.S. source income (see Code section 7701(b)(5)(B)), would 
not be considered a resident of the United States for purposes 
of the Convention. Similarly, an enterprise of Malta with a 
permanent establishment in the United States is not, by virtue 
of that permanent establishment, a resident of the United 
States. The enterprise generally is subject to U.S. tax only 
with respect to its income that is attributable to the U.S. 
permanent establishment, not with respect to its worldwide 
income, as it would be if it were a U.S. resident.
Paragraph 2
    Paragraph 2 provides that certain tax-exempt entities such 
as pension funds and charitable organizations will be regarded 
as residents of a Contracting State regardless of whether they 
are generally liable to income tax in the State where they are 
established. The paragraph applies to legal persons organized 
under the laws of a Contracting State and established and 
maintained in that State to provide pensions or other similar 
benefits pursuant to a plan, or exclusively for religious, 
charitable, scientific, artistic, cultural, or educational 
purposes. Thus, a section 501(c) organization organized in the 
United States (such as a U.S. charity) that is generally exempt 
from tax under U.S. law is a resident of the United States for 
all purposes of the Convention. In the case of Malta, the 
Exchange of Notes accompanying the Convention provides that 
paragraph 2 applies to entities exempt from taxation under 
Maltese law as philanthropic institutions, philharmonic 
societies, or sports clubs.
Paragraph 3
    If, under the laws of the two Contracting States, and, 
thus, under paragraph 1, an individual is deemed to be a 
resident of both Contracting States, a series of tie-breaker 
rules are provided in paragraph 3 to determine a single State 
of residence for that individual These tests are to be applied 
in the order in which they are stated. The first test is based 
on where the individual has a permanent home. If that test is 
inconclusive because the individual has a permanent home 
available to him in both States, he will be considered to be a 
resident of the Contracting State where his personal and 
economic relations are closest (i.e., the location of his 
``center of vital interests''). If that test is also 
inconclusive, or if he does not have a permanent home available 
to him in either State, he will be treated as a resident of the 
Contracting State where he maintains a habitual abode. If he 
has a habitual abode in both States or in neither of them, he 
will be treated as a resident of the Contracting State of which 
he is a national. If he is a national of both States or of 
neither, the matter will be considered by the competent 
authorities, who will assign a single State of residence.
Paragraph 4
    Paragraph 4 seeks to settle dual-residence issues for 
companies. A company is treated as resident in the United 
States if it is created or organized under the laws of the 
United States or a political subdivision. Because a company can 
be treated as a resident of Malta if it is either incorporated 
or managed and controlled there, dual residence can arise in 
the case of a U.S. company that is managed and controlled in 
Malta. In other cases, a company may be a dual resident because 
it was originally incorporated in one Contracting State but has 
``continued'' into the other Contracting State. Paragraph 4 
attempts to deal with each of these situations.
    Under paragraph 4, the residence of a dual-resident company 
will be in the Contracting State under the laws of which it is 
created or organized if it is created or organized under the 
laws of only one of the other Contracting States. Thus, if a 
company is a resident of the United States because it is 
incorporated under the laws of one of the states and is a 
resident of Malta because its place of effective management is 
in Malta, then it will be a resident only of the United States. 
However, if the incorporation test does not resolve the 
question because, for example, the company was incorporated in 
one Contracting State and continued into the other Contracting 
State, but the first-mentioned Contracting State does not 
recognize the migration and continues to treat the company as a 
resident, then the competent authorities will try to determine 
a single State of residence for the company.
    If the competent authorities do not reach an agreement on a 
single State of residence, that company may not claim any 
benefit accorded to residents of a Contracting State by the 
Convention. The company may, however, claim any benefits that 
are not limited to residents, such as those provided by 
paragraph 1 of Article 24 (Non-Discrimination). Thus, for 
example, a State cannot discriminate against a dual resident 
company.
    Dual resident companies also may be treated as a resident 
of a Contracting State for purposes other than that of 
obtaining benefits under the Convention. For example, if a dual 
resident company pays a dividend to a resident of Malta, the 
U.S. paying agent would withhold on that dividend at the 
appropriate treaty rate because reduced withholding is a 
benefit enjoyed by the resident of Malta, not by the dual 
resident company. The dual resident company that paid the 
dividend would, for this purpose, be treated as a resident of 
the United States under the Convention. In addition, 
information relating to dual resident companies can be 
exchanged under the Convention because, by its terms, Article 
26 (Exchange of Information and Administrative Assistance) is 
not limited to residents of the Contracting States.
Paragraph 5
    Dual residents other than individuals or companies (such as 
trusts or estates) are addressed by paragraph 5. If such a 
person is, under the rules of paragraph 1, resident in both 
Contracting States, the competent authorities shall seek to 
determine a single State of residence for that person for 
purposes of the Convention.

                  ARTICLE 5 (PERMANENT ESTABLISHMENT)

    This Article defines the term ``permanent establishment,'' 
a term that is significant for several articles of the 
Convention. The existence of a permanent establishment in a 
Contracting State is necessary under Article 7 (Business 
Profits) for the taxation by that State of the business profits 
of a resident of the other Contracting State. Articles 10 
(Dividends), 11 (Interest), and 12 (Royalties) provide for 
reduced rates of tax at source on payments of these items of 
income to a resident of the other State only when the income is 
not attributable to a permanent establishment that the 
recipient has in the source State. The concept is also relevant 
in determining which Contracting State may tax certain gains 
under Article 13 (Gains) and certain ``other income'' under 
Article 21 (Other Income).
Paragraph 1
    The basic definition of the term ``permanent 
establishment'' is contained in paragraph 1. As used in the 
Convention, the term means a fixed place of business through 
which the business of an enterprise is wholly or partly carried 
on. As indicated in the OECD Commentary to Article 5 (see 
paragraphs 4 through 8), a general principle to be observed in 
determining whether a permanent establishment exists is that 
the place of business must be ``fixed'' in the sense that a 
particular building or physical location is used by the 
enterprise for the conduct of its business, and that it must be 
foreseeable that the enterprise's use of this building or other 
physical location will be more than temporary.
Paragraph 2
    Paragraph 2 lists a number of types of fixed places of 
business that constitute a permanent establishment. This list 
is illustrative and non-exclusive. According to paragraph 2, 
the term permanent establishment includes a place of 
management, a branch, an office, a factory, a workshop, and a 
mine, oil or gas well, quarry or other place of extraction of 
natural resources.
Paragraph 3
    This paragraph provides rules to determine whether a 
building site or a construction, assembly or installation 
project, or an installation or drilling rig or ship used for 
the exploration of natural resources constitutes a permanent 
establishment for the contractor, driller, etc. Such a site or 
activity does not create a permanent establishment unless the 
site, project, etc. lasts, or the exploration activity 
continues, for more than twelve months. It is only necessary to 
refer to ``exploration'' and not ``exploitation'' in this 
context because exploitation activities are defined to 
constitute a permanent establishment under subparagraph 2(f). 
Thus, a drilling rig does not constitute a permanent 
establishment if a well is drilled in only six months, but if 
production begins in the following month the well becomes a 
permanent establishment as of that date.
    The twelve-month test applies separately to each site or 
project. The twelve-month period begins when work (including 
preparatory work carried on by the enterprise) physically 
begins in a Contracting State. A series of contracts or 
projects by a contractor that are interdependent both 
commercially and geographically are to be treated as a single 
project for purposes of applying the twelve-month threshold 
test. For example, the construction of a housing development 
would be considered as a single project even if each house were 
constructed for a different purchaser.
    In applying this paragraph, time spent by a sub-contractor 
on a building site is counted as time spent by the general 
contractor at the site for purposes of determining whether the 
general contractor has a permanent establishment. However, for 
the sub-contractor itself to be treated as having a permanent 
establishment, the sub-contractor's activities at the site must 
last for more than 12 months. If a sub-contractor is on a site 
intermittently, then, for purposes of applying the 12-month 
rule, time is measured from the first day the sub-contractor is 
on the site until the last day (i.e., intervening days that the 
sub-contractor is not on the site are counted).
    These interpretations of the Article are based on the 
Commentary to paragraph 3 of Article 5 of the OECD Model, which 
contains language that is substantially the same as that in the 
Convention. These interpretations are consistent with the 
generally accepted international interpretation of the relevant 
language in paragraph 3 of Article 5 of the Convention.
    If the twelve-month threshold is exceeded, the site or 
project constitutes a permanent establishment from the first 
day of activity.
Paragraph 4
    This paragraph contains exceptions to the general rule of 
paragraph 1, listing a number of activities that may be carried 
on through a fixed place of business but which nevertheless do 
not create a permanent establishment. The use of facilities 
solely to store, display or deliver merchandise belonging to an 
enterprise does not constitute a permanent establishment of 
that enterprise. The maintenance of a stock of goods belonging 
to an enterprise solely for the purpose of storage, display or 
delivery, or solely for the purpose of processing by another 
enterprise does not give rise to a permanent establishment of 
the first-mentioned enterprise. The maintenance of a fixed 
place of business solely for the purpose of purchasing goods or 
merchandise, or for collecting information, for the enterprise, 
or for other activities that have a preparatory or auxiliary 
character for the enterprise, such as advertising, or the 
supply of information, do not constitute a permanent 
establishment of the enterprise. Moreover, subparagraph 4(f) 
provides that a combination of the activities described in the 
other subparagraphs of paragraph 4 will not give rise to a 
permanent establishment if the combination results in an 
overall activity that is of a preparatory or auxiliary 
character.
Paragraph 5
    Paragraphs 5 and 6 specify when activities carried on by an 
agent or other person acting on behalf of an enterprise create 
a permanent establishment of that enterprise. Under paragraph 
5, a person is deemed to create a permanent establishment of 
the enterprise if that person has and habitually exercises an 
authority to conclude contracts that are binding on the 
enterprise. If, however, for example, his activities are 
limited to those activities specified in paragraph 4 which 
would not constitute a permanent establishment if carried on by 
the enterprise through a fixed place of business, the person 
does not create a permanent establishment of the enterprise.
    The Convention uses the U.S. Model language ``binding on 
the enterprise,'' rather than the OECD Model language ``in the 
name of that enterprise.'' This difference in language is not 
intended to be a substantive difference. As indicated in 
paragraph 32 to the OECD Commentaries on Article 5, paragraph 5 
of the Article is intended to encompass persons who have 
``sufficient authority to bind the enterprise's participation 
in the business activity in the State concerned.''
    The contracts referred to in paragraph 5 are those relating 
to the essential business operations of the enterprise, rather 
than ancillary activities. For example, if the person has no 
authority to conclude contracts in the name of the enterprise 
with its customers for, say, the sale of the goods produced by 
the enterprise, but it can enter into service contracts in the 
name of the enterprise for the enterprise's business equipment, 
this contracting authority would not fall within the scope of 
the paragraph, even if exercised regularly.
Paragraph 6
    Under paragraph 6, an enterprise is not deemed to have a 
permanent establishment in a Contracting State merely because 
it carries on business in that State through an independent 
agent, including a broker or general commission agent, if the 
agent is acting in the ordinary course of his business as an 
independent agent. Thus, there are two conditions that must be 
satisfied: the agent must be both legally and economically 
independent of the enterprise, and the agent must be acting in 
the ordinary course of its business in carrying out activities 
on behalf of the enterprise.
    Whether the agent and the enterprise are independent is a 
factual determination. Among the questions to be considered are 
the extent to which the agent operates on the basis of 
instructions from the enterprise. An agent that is subject to 
detailed instructions regarding the conduct of its operations 
or comprehensive control by the enterprise is not legally 
independent.
    In determining whether the agent is economically 
independent, a relevant factor is the extent to which the agent 
bears business risk. Business risk refers primarily to risk of 
loss. An independent agent typically bears risk of loss from 
its own activities. In the absence of other factors that would 
establish dependence, an agent that shares business risk with 
the enterprise, or has its own business risk, is economically 
independent because its business activities are not integrated 
with those of the principal. Conversely, an agent that bears 
little or no risk from the activities it performs is not 
economically independent and therefore is not described in 
paragraph 6.
    Another relevant factor in determining whether an agent is 
economically independent is whether the agent acts exclusively 
or nearly exclusively for the principal. Such a relationship 
may indicate that the principal has economic control over the 
agent. A number of principals acting in concert also may have 
economic control over an agent. The limited scope of the 
agent's activities and the agent's dependence on a single 
source of income may indicate that the agent lacks economic 
independence. It should be borne in mind, however, that 
exclusivity is not in itself a conclusive test; an agent may be 
economically independent notwithstanding an exclusive 
relationship with the principal if it has the capacity to 
diversify and acquire other clients without substantial 
modifications to its current business and without substantial 
harm to its business profits. Thus, exclusivity should be 
viewed merely as a pointer to further investigation of the 
relationship between the principal and the agent. Each case 
must be addressed on the basis of its own facts and 
circumstances.
Paragraph 7
    This paragraph clarifies that a company that is a resident 
of a Contracting State is not deemed to have a permanent 
establishment in the other Contracting State merely because it 
controls, or is controlled by, a company that is a resident of 
that other Contracting State, or that carries on business in 
that other Contracting State. The determination whether a 
permanent establishment exists is made solely on the basis of 
the factors described in paragraphs 1 through 6 of the Article. 
Whether a company is a permanent establishment of a related 
company, therefore, is based solely on those factors and not on 
the ownership or control relationship between the companies.

           ARTICLE 6 (INCOME FROM REAL (IMMOVABLE) PROPERTY)

    This article deals with the taxation of income from real 
(immovable) property situated in a Contracting State (the 
``situs State''). The Article does not grant an exclusive 
taxing right to the situs State; the situs State is merely 
given the primary right to tax. The Article does not impose any 
limitation in terms of rate or form of tax imposed by the situs 
State, except that, as provided in paragraph 5, the situs State 
must allow the taxpayer an election to be taxed on a net basis.
Paragraph 1
    The first paragraph of Article 6 states the general rule 
that income of a resident of a Contracting State derived from 
real (immovable) property situated in the other Contracting 
State may be taxed in the Contracting State in which the 
property is situated. The paragraph specifies that income from 
real (immovable) property includes income from agriculture and 
forestry. Given the availability of the net election in 
paragraph 5, taxpayers generally should be able to obtain the 
same tax treatment in the situs country regardless of whether 
the income is treated as business profits or real (immovable) 
property income.
Paragraph 2
    The term ``real (immovable) property'' is defined in 
paragraph 2 by reference to the internal law definition in the 
situs State. In the case of the United States, the term has the 
meaning given to it by Reg. Sec. 1.897-1(b). In addition to the 
statutory definitions in the two Contracting States, the 
paragraph specifies certain additional classes of property 
that, regardless of internal law definitions, are within the 
scope of the term for purposes of the Convention. This expanded 
definition conforms to that in the OECD Model. The definition 
of ``real (immovable) property'' for purposes of Article 6 is 
more limited than the expansive definition of ``real 
(immovable) property'' in paragraph 1 of Article 13 (Capital 
Gains). The Article 13 term includes not only real (immovable) 
property as defined in Article 6 but certain other interests in 
real (immovable) property.
Paragraph 3
    Paragraph 3 makes clear that all forms of income derived 
from the exploitation of real (immovable) property are taxable 
in the Contracting State in which the property is situated. 
This includes income from any use of real (immovable) property, 
including, but not limited to, income from direct use by the 
owner (in which case income may be imputed to the owner for tax 
purposes) and rental income from the letting of real 
(immovable) property. In the case of a net lease of real 
(immovable) property, if a net election pursuant to paragraph 5 
has not been made, the gross rental payment (before deductible 
expenses incurred by the lessee) is treated as income from the 
property.
    Other income closely associated with real (immovable) 
property is covered by other Articles of the Convention, 
however, and not Article 6. For example, income from the 
disposition of an interest in real (immovable) property is not 
considered ``derived'' from real (immovable) property; taxation 
of that income is addressed in Article 13 (Gains). Interest 
paid on a mortgage on real (immovable) property would be 
covered by Article 11 (Interest). Distributions by a U.S. Real 
Estate Investment Trust or certain regulated investment 
companies would fall under Article 13 in the case of 
distributions of U.S. real property gain or Article 10 
(Dividends) in the case of distributions treated as dividends. 
Finally, distributions from a United States Real Property 
Holding Corporation are not considered to be income from the 
exploitation of real (immovable) property; such payments would 
fall under Article 10 or 13.
Paragraph 4
    This paragraph specifies that the basic rule of paragraph 1 
(as elaborated in paragraph 3) applies to income from real 
(immovable) property of an enterprise. This clarifies that the 
situs country may tax the real (immovable) property income 
(including rental income) of a resident of the other 
Contracting State in the absence of attribution to a permanent 
establishment in the situs State. This provision represents an 
exception to the general rule under Articles 7 (Business 
Profits) that income must be attributable to a permanent 
establishment in order to be taxable in the situs State.
Paragraph 5
    The paragraph provides that a resident of one Contracting 
State that derives real (immovable) property income from the 
other may elect, for any taxable year, to be subject to tax in 
that other State on a net basis, as though the income were 
attributable to a permanent establishment in that other State. 
In the case of real property situated in the United States, the 
election may be terminated only with the consent of the 
competent authority of the United States. Termination of such 
election will be granted in accordance with the provisions of 
Treas. Reg. Sec. 1.871-10(d)(2).

                      ARTICLE 7 (BUSINESS PROFITS)

    This Article provides rules for the taxation by a 
Contracting State of the business profits of an enterprise of 
the other Contracting State.
Paragraph 1
    Paragraph 1 states the general rule that business profits 
of an enterprise of one Contracting State may not be taxed by 
the other Contracting State unless the enterprise carries on 
business in that other Contracting State through a permanent 
establishment (as defined in Article 5 (Permanent 
Establishment)) situated there. When that condition is met, the 
State in which the permanent establishment is situated may tax 
the enterprise on the income that is attributable to the 
permanent establishment.
    Although the Convention does not include a definition of 
``business profits,'' the term is intended to cover income 
derived from any trade or business. In accordance with this 
broad definition, the term ``business profits'' includes income 
attributable to notional principal contracts and other 
financial instruments to the extent that the income is 
attributable to a trade or business of dealing in such 
instruments or is otherwise related to a trade or business (as 
in the case of a notional principal contract entered into for 
the purpose of hedging currency risk arising from an active 
trade or business). Any other income derived from such 
instruments is, unless specifically covered in another article, 
dealt with under Article 21 (Other Income).
    The term ``business profits'' also includes income derived 
by an enterprise from the rental of tangible personal property 
(unless such tangible personal property consists of aircraft, 
ships or containers, income from which is addressed by Article 
8 (Shipping and Air Transport)). The inclusion of income 
derived by an enterprise from the rental of tangible personal 
property in business profits means that such income earned by a 
resident of a Contracting State can be taxed by the other 
Contracting State only if the income is attributable to a 
permanent establishment maintained by the resident in that 
other State, and, if the income is taxable, it can be taxed 
only on a net basis. Income from the rental of tangible 
personal property that is not derived in connection with a 
trade or business is dealt with in Article 21 (Other Income).
    In addition, as a result of the definitions of 
``enterprise'' and ``business'' in Article 3 (General 
Definitions), the term includes income derived from the 
furnishing of personal services. Thus, a consulting firm 
resident in one State whose employees or partners perform 
services in the other State through a permanent establishment 
may be taxed in that other State on a net basis under Article 
7, and not under Article 14 (Income from Employment), which 
applies only to income of employees. With respect to the 
enterprise's employees themselves, however, their salary 
remains subject to Article 14.
    Because this article applies to income earned by an 
enterprise from the furnishing of personal services, the 
article also applies to income derived by a partner resident in 
a Contracting State that is attributable to personal services 
performed in the other Contracting State through a partnership 
with a permanent establishment in that other State. Income 
which may be taxed under this article includes all income 
attributable to the permanent establishment in respect of the 
performance of the personal services carried on by the 
partnership (whether by the partner himself, other partners in 
the partnership, or by employees assisting the partners) and 
any income from activities ancillary to the performance of 
those services (e.g., charges for facsimile services).
    The application of Article 7 to a service partnership may 
be illustrated by the following example: a partnership formed 
in Malta has five partners (who agree to split profits 
equally), four of whom are resident and perform personal 
services only in Malta at Office A, and one of whom performs 
personal services at Office B, a permanent establishment in the 
United States. In this case, the four partners of the 
partnership resident in Malta may be taxed in the United States 
in respect of their share of the income attributable to the 
permanent establishment, Office B. The services giving rise to 
income which may be attributed to the permanent establishment 
would include not only the services performed by the one 
resident partner, but also, for example, if one of the four 
other partners came to the United States and worked on an 
Office B matter there, the income in respect of those services. 
Income from the services performed by the visiting partner 
would be subject to tax in the United States regardless of 
whether the visiting partner actually visited or used Office B 
while performing services in the United States.
Paragraph 2
    Paragraph 2 provides rules for the attribution of business 
profits to a permanent establishment. The Contracting States 
will attribute to a permanent establishment the profits that it 
would have earned had it been a distinct and separate 
enterprise engaged in the same or similar activities under the 
same or similar conditions. This language incorporates the 
arm's-length standard for purposes of determining the profits 
attributable to a permanent establishment. The computation of 
business profits attributable to a permanent establishment 
under this paragraph is subject to the rules of paragraph 3 for 
the allowance of expenses incurred for the purposes of earning 
the profits.
    The ``attributable to'' concept of paragraph 2 is analogous 
but not entirely equivalent to the ``effectively connected'' 
concept in Code section 864(c). The profits attributable to a 
permanent establishment may be from sources within or without a 
Contracting State.
    Paragraph 2 also provides that the business profits 
attributed to a permanent establishment include only those 
derived from the assets used, risks assumed and activities 
performed by the permanent establishment. This rule is 
consistent with the ``asset-use'' and ``business activities'' 
tests of Code section 864(c)(2).
Paragraph 3
    Paragraph 3 provides that in determining the business 
profits of a permanent establishment, deductions shall be 
allowed for the expenses incurred for the purposes of the 
permanent establishment, ensuring that business profits will be 
taxed on a net basis. This rule is not limited to expenses 
incurred exclusively for the purposes of the permanent 
establishment, but includes expenses incurred for the purposes 
of the enterprise as a whole, or that part of the enterprise 
that includes the permanent establishment. Deductions are to be 
allowed regardless of which accounting unit of the enterprise 
books the expenses, so long as they are incurred for the 
purposes of the permanent establishment. For example, a portion 
of the interest expense recorded on the books of the home 
office in one State may be deducted by a permanent 
establishment in the other if properly allocable thereto. This 
rule permits (but does not require) each Contracting State to 
apply the type of expense allocation rules provided by U.S. law 
(such as in Treas. Reg. sections 1.861-8 and 1.882-5).
    Paragraph 3 does not permit a deduction for expenses 
charged to a permanent establishment by another unit of the 
enterprise. Thus, a permanent establishment may not deduct a 
royalty deemed paid to the head office. Similarly, a permanent 
establishment may not increase its business profits by the 
amount of any notional fees for ancillary services performed 
for another unit of the enterprise, but also should not receive 
a deduction for the expense of providing such services, since 
those expenses would be incurred for purposes of a business 
unit other than the permanent establishment.
Paragraph 4
    Paragraph 4 provides that no business profits can be 
attributed to a permanent establishment merely because it 
purchases goods or merchandise for the enterprise of which it 
is a part. This paragraph is essentially identical to paragraph 
5 of Article 7 of the OECD Model. This rule applies only to an 
office that performs functions for the enterprise in addition 
to purchasing. The income attribution issue does not arise if 
the sole activity of the office is the purchase of goods or 
merchandise because such activity does not give rise to a 
permanent establishment under Article 5 (Permanent 
Establishment). A common situation in which paragraph 4 is 
relevant is one in which a permanent establishment purchases 
raw materials for the enterprise's manufacturing operation 
conducted outside the United States and sells the manufactured 
product. While business profits may be attributable to the 
permanent establishment with respect to its sales activities, 
no profits are attributable to it with respect to its 
purchasing activities.
Paragraph 5
    Paragraph 5 provides that profits shall be determined by 
the same method each year, unless there is good reason to 
change the method used. This rule assures consistent tax 
treatment over time for permanent establishments. It limits the 
ability of both the Contracting State and the enterprise to 
change accounting methods to be applied to the permanent 
establishment. It does not, however, restrict a Contracting 
State from imposing additional requirements, such as the rules 
under Code section 481, to prevent amounts from being 
duplicated or omitted following a change in accounting method.
Paragraph 6
    Paragraph 6 coordinates the provisions of Article 7 and 
other provisions of the Convention. Under this paragraph, when 
business profits include items of income that are dealt with 
separately under other articles of the Convention, the 
provisions of those articles will, except when they 
specifically provide to the contrary, take precedence over the 
provisions of Article 7. For example, the taxation of dividends 
will be determined by the rules of Article 10 (Dividends), and 
not by Article 7, except where, as provided in paragraph 6 of 
Article 10, the dividend is attributable to a permanent 
establishment. In the latter case the provisions of Article 7 
apply. Thus, an enterprise of one State deriving dividends from 
the other State may not rely on Article 7 to exempt those 
dividends from tax at source if they are not attributable to a 
permanent establishment of the enterprise in the other State. 
By the same token, if the dividends are attributable to a 
permanent establishment in the other State, the dividends may 
be taxed on a net income basis at the source State full 
corporate tax rate, rather than on a gross basis under Article 
10.
    As provided in Article 8 (Shipping and Air Transport), 
income derived from shipping and air transport activities in 
international traffic described in that Article is taxable only 
in the country of residence of the enterprise regardless of 
whether it is attributable to a permanent establishment 
situated in the source State.
Paragraph 7
    Paragraph 7 incorporates into the Convention the rule of 
Code section 864(c)(6). Like the Code section on which it is 
based, paragraph 7 provides that any income or gain 
attributable to a permanent establishment during its existence 
is taxable in the Contracting State where the permanent 
establishment is situated, even if the payment of that income 
or gain is deferred until after the permanent establishment 
ceases to exist. This rule applies with respect to this 
Article, paragraph 6 of Article 10, paragraph 5 of Article 11 
(Interest), paragraph 4 of Articles 12 (Royalties), paragraph 3 
of Article 13 (Gains) and paragraph 2 of Article 21 (Other 
Income).
    The effect of this rule can be illustrated by the following 
example. Assume a company that is a resident of the other 
Contracting State and that maintains a permanent establishment 
in the United States winds up the permanent establishment's 
business and sells the permanent establishment's inventory and 
assets to a U.S. buyer at the end of year 1 in exchange for an 
interest-bearing installment obligation payable in full at the 
end of year 3. Despite the fact that Article 13's threshold 
requirement for U.S. taxation is not met in year 3 because the 
company has no permanent establishment in the United States, 
the United States may tax the deferred income payment 
recognized by the company in year 3.
Relationship to Other Articles
    This Article is subject to the saving clause of paragraph 4 
of Article 1 (General Scope) of the Model. Thus, if a citizen 
of the United States who is a resident of Malta under the 
treaty derives business profits from the United States that are 
not attributable to a permanent establishment in the United 
States, the United States may, subject to the special foreign 
tax credit rules of paragraph 4 of Article 23 (Relief from 
Double Taxation), tax those profits, notwithstanding the 
provision of paragraph 1 of this Article which would exempt the 
income from U.S. tax.
    The benefits of this Article are also subject to Article 22 
(Limitation on Benefits). Thus, an enterprise of Malta and that 
derives income effectively connected with a U.S. trade or 
business may not claim the benefits of Article 7 unless the 
resident carrying on the enterprise qualifies for such benefits 
under Article 22.

                 ARTICLE 8 (SHIPPING AND AIR TRANSPORT)

    This Article governs the taxation of profits from the 
operation of ships and aircraft in international traffic. The 
term ``international traffic'' is defined in subparagraph 1(f) 
of Article 3 (General Definitions). The Exchange of Notes 
accompanying the Convention provides that neither the 
provisions of Article 8 nor any other provision of the 
Convention shall affect the continued validity and application 
of the provisions of the Agreement between the United States 
and Malta regarding the Taxation of Shipping and Aircraft 
effected by exchange of notes dated at Washington December 26, 
1996, and March 11, 1997.
Paragraph 1
    Paragraph 1 provides that profits derived by an enterprise 
of a Contracting State from the operation in international 
traffic of ships or aircraft are taxable only in that 
Contracting State. Because paragraph 6 of Article 7 (Business 
Profits) defers to Article 8 with respect to shipping income, 
such income derived by a resident of one of the Contracting 
States may not be taxed in the other State even if the 
enterprise has a permanent establishment in that other State. 
Thus, if a U.S. airline has a ticket office in Malta, Malta may 
not tax the airline's profits attributable to that office under 
Article 7. Since entities engaged in international 
transportation activities normally will have many permanent 
establishments in a number of countries, the rule avoids 
difficulties that would be encountered in attributing income to 
multiple permanent establishments if the income were covered by 
Article 7.
Paragraph 2
    The income from the operation of ships or aircraft in 
international traffic that is exempt from tax under paragraph 1 
is defined in paragraph 2.
    In addition to income derived directly from the operation 
of ships and aircraft in international traffic, this definition 
also includes certain items of rental income. First, income of 
an enterprise of a Contracting State from the rental of ships 
or aircraft on a full basis (i.e., with crew) is income of the 
lessor from the operation of ships and aircraft in 
international traffic and, therefore, is exempt from tax in the 
other Contracting State under paragraph 1. Also, paragraph 2 
encompasses income from the lease of ships or aircraft on a 
bareboat basis (i.e., without crew), either when the income is 
incidental to other income of the lessor from the operation of 
ships or aircraft in international traffic, or when the ships 
or aircraft are operated in international traffic by the 
lessee. If neither of those two conditions apply, income from 
the bareboat rentals would constitute business profits. The 
coverage of Article 8 is therefore broader than that of Article 
8 of the OECD Model, which covers bareboat leasing only when it 
is incidental to other income of the lessor from the operation 
of ships of aircraft in international traffic.
    Paragraph 2 also clarifies, consistent with the Commentary 
to Article 8 of the OECD Model, that income earned by an 
enterprise from the inland transport of property or passengers 
within either Contracting State falls within Article 8 if the 
transport is undertaken as part of the international transport 
of property or passengers by the enterprise. Thus, if a U.S. 
shipping company contracts to carry property from Malta to a 
U.S. city and, as part of that contract, it transports the 
property by truck from its point of origin to an airport in 
Malta (or it contracts with a trucking company to carry the 
property to the airport) the income earned by the U.S. shipping 
company from the overland leg of the journey would be taxable 
only in the United States. Similarly, Article 8 also would 
apply to all of the income derived from a contract for the 
international transport of goods, even if the goods were 
transported to the port by a lighter, not by the vessel that 
carried the goods in international waters.
    Finally, certain non-transport activities that are an 
integral part of the services performed by a transport company, 
or are ancillary to the enterprise's operation of ships or 
aircraft in international traffic, are understood to be covered 
in paragraph 1, though they are not specified in paragraph 2. 
These include, for example, the provision of goods and services 
by engineers, ground and equipment maintenance and staff, cargo 
handlers, catering staff and customer services personnel. Where 
the enterprise provides such goods to, or performs services 
for, other enterprises and such activities are directly 
connected with or ancillary to the enterprise's operation of 
ships or aircraft in international traffic, the profits from 
the provision of such goods and services to other enterprises 
will fall under this paragraph.
    For example, enterprises engaged in the operation of ships 
or aircraft in international traffic may enter into pooling 
arrangements for the purposes of reducing the costs of 
maintaining facilities needed for the operation of their ships 
or aircraft in other countries. For instance, where an airline 
enterprise agrees (for example, under an International Airlines 
Technical Pool agreement) to provide spare parts or maintenance 
services to other airlines landing at a particular location 
(which allows it to benefit from these services at other 
locations), activities carried on pursuant to that agreement 
will be ancillary to the operation of aircraft in international 
traffic by the enterprise.
    Also, advertising that the enterprise may do for other 
enterprises in magazines offered aboard ships or aircraft that 
it operates in international traffic or at its business 
locations, such as ticket offices, is ancillary to its 
operation of these ships or aircraft. Profits generated by such 
advertising fall within this paragraph. Income earned by 
concessionaires, however, is not covered by Article 8. These 
interpretations of paragraph 1 also are consistent with the 
Commentary to Article 8 of the OECD Model.
Paragraph 3
    Under this paragraph, profits of an enterprise of a 
Contracting State from the use, maintenance or rental of 
containers (including equipment for their transport) are exempt 
from tax in the other Contracting State, unless those 
containers are used for transport solely in the other 
Contracting State. This result obtains under paragraph 3 
regardless of whether the recipient of the income is engaged in 
the operation of ships or aircraft in international traffic, 
and regardless of whether the enterprise has a permanent 
establishment in the other Contracting State. Only income from 
the use, maintenance or rental of containers that is incidental 
to other income from international traffic is covered by 
Article 8 of the OECD Model.
Paragraph 4
    This paragraph clarifies that the provisions of paragraphs 
1 and 3 also apply to profits derived by an enterprise of a 
Contracting State from participation in a pool, joint business 
or international operating agency. This refers to various 
arrangements for international cooperation by carriers in 
shipping and air transport. For example, airlines from two 
countries may agree to share the transport of passengers 
between the two countries. They each will fly the same number 
of flights per week and share the revenues from that route 
equally, regardless of the number of passengers that each 
airline actually transports. Paragraph 4 makes clear that with 
respect to each carrier the income dealt with in the Article is 
that carrier's share of the total transport, not the income 
derived from the passengers actually carried by the airline. 
This paragraph corresponds to paragraph 4 of Article 8 of the 
OECD Model.
Relationship to Other Articles
    The taxation of gains from the alienation of ships, 
aircraft or containers is not dealt with in this Article but in 
paragraph 4 of Article 13 (Gains).
    As with other benefits of the Convention, the benefit of 
exclusive residence country taxation under Article 8 is 
available to an enterprise only if it is entitled to benefits 
under Article 22 (Limitation on Benefits).
    This Article also is subject to the saving clause of 
paragraph 4 of Article 1 (General Scope) of the Model. Thus, if 
a citizen of the United States who is a resident of Malta 
derives profits from the operation of ships or aircraft in 
international traffic, notwithstanding the exclusive residence 
country taxation in paragraph 1 of Article 8, the United States 
may, subject to the special foreign tax credit rules of 
paragraph 4 of Article 23 (Relief from Double Taxation), tax 
those profits as part of the worldwide income of the citizen. 
(This is an unlikely situation, however, because non-tax 
considerations (e.g., insurance) generally result in shipping 
activities being carried on in corporate form.)

                   ARTICLE 9 (ASSOCIATED ENTERPRISES)

    This Article incorporates in the Convention the arm's-
length principle reflected in the U.S. domestic transfer 
pricing provisions, particularly Code section 482. It provides 
that when related enterprises engage in a transaction on terms 
that are not arm's-length, the Contracting States may make 
appropriate adjustments to the taxable income and tax liability 
of such related enterprises to reflect what the income and tax 
of these enterprises with respect to the transaction would have 
been had there been an arm's-length relationship between them.
Paragraph 1
    This paragraph addresses the situation where an enterprise 
of a Contracting State is related to an enterprise of the other 
Contracting State, and there are arrangements or conditions 
imposed between the enterprises in their commercial or 
financial relations that are different from those that would 
have existed in the absence of the relationship. Under these 
circumstances, the Contracting States may adjust the income (or 
loss) of the enterprise to reflect what it would have been in 
the absence of such a relationship.
    The paragraph identifies the relationships between 
enterprises that serve as a prerequisite to application of the 
Article. As the Commentary to the OECD Model makes clear, the 
necessary element in these relationships is effective control, 
which is also the standard for purposes of section 482. Thus, 
the Article applies if an enterprise of one State participates 
directly or indirectly in the management, control, or capital 
of the enterprise of the other State. Also, the Article applies 
if any third person or persons participate directly or 
indirectly in the management, control, or capital of 
enterprises of different States. For this purpose, all types of 
control are included, i.e., whether or not legally enforceable 
and however exercised or exercisable.
    The fact that a transaction is entered into between such 
related enterprises does not, in and of itself, mean that a 
Contracting State may adjust the income (or loss) of one or 
both of the enterprises under the provisions of this Article. 
If the conditions of the transaction are consistent with those 
that would be made between independent persons, the income 
arising from that transaction should not be subject to 
adjustment under this Article.
    Similarly, the fact that associated enterprises may have 
concluded arrangements, such as cost sharing arrangements or 
general services agreements, is not in itself an indication 
that the two enterprises have entered into a non-arm's-length 
transaction that should give rise to an adjustment under 
paragraph 1. Both related and unrelated parties enter into such 
arrangements (e.g., joint venturers may share some development 
costs). As with any other kind of transaction, when related 
parties enter into an arrangement, the specific arrangement 
must be examined to see whether or not it meets the arm's-
length standard. In the event that it does not, an appropriate 
adjustment may be made, which may include modifying the terms 
of the agreement or re-characterizing the transaction to 
reflect its substance.
    It is understood that the ``commensurate with income'' 
standard for determining appropriate transfer prices for 
intangibles, added to Code section 482 by the Tax Reform Act of 
1986, was designed to operate consistently with the arm's-
length standard. The implementation of this standard in the 
section 482 regulations is in accordance with the general 
principles of paragraph 1 of Article 9 of the Convention, as 
interpreted by the OECD Transfer Pricing Guidelines.
    This Article also permits tax authorities to deal with thin 
capitalization issues. They may, in the context of Article 9, 
scrutinize more than the rate of interest charged on a loan 
between related persons. They also may examine the capital 
structure of an enterprise, whether a payment in respect of 
that loan should be treated as interest, and, if it is treated 
as interest, under what circumstances interest deductions 
should be allowed to the payor. Paragraph 2 of the Commentary 
to Article 9 of the OECD Model, together with the U.S. 
observation set forth in paragraph 15, sets forth a similar 
understanding of the scope of Article 9 in the context of thin 
capitalization.
Paragraph 2
    When a Contracting State has made an adjustment that is 
consistent with the provisions of paragraph 1, and the other 
Contracting State agrees that the adjustment was appropriate to 
reflect arm's-length conditions, that other Contracting State 
is obligated to make a correlative adjustment (sometimes 
referred to as a ``corresponding adjustment'') to the tax 
liability of the related person in that other Contracting 
State. Although the OECD Model does not specify that the other 
Contracting State must agree with the initial adjustment before 
it is obligated to make the correlative adjustment, the 
Commentary makes clear that the paragraph is to be read that 
way.
    As explained in the Commentary to Article 9 of the OECD 
Model, Article 9 leaves the treatment of ``secondary 
adjustments'' to the laws of the Contracting States. When an 
adjustment under Article 9 has been made, one of the parties 
will have in its possession funds that it would not have had at 
arm's length. The question arises as to how to treat these 
funds. In the United States the general practice is to treat 
such funds as a dividend or contribution to capital, depending 
on the relationship between the parties. Under certain 
circumstances, the parties may be permitted to restore the 
funds to the party that would have the funds had the 
transactions been entered into on arm's length terms, and to 
establish an account payable pending restoration of the funds. 
See Rev. Proc. 99-32, 1999-2 C.B. 296.
    The Contracting State making a secondary adjustment will 
take the other provisions of the Convention, where relevant, 
into account. For example, if the effect of a secondary 
adjustment is to treat a U.S. corporation as having made a 
distribution of profits to its parent corporation in the other 
Contracting State, the provisions of Article 10 (Dividends) 
will apply, and the United States may impose a 5 percent 
withholding tax on the dividend. Also, if under Article 23 
(Relief from Double Taxation) the other State generally gives a 
credit for taxes paid with respect to such dividends, it would 
also be required to do so in this case.
    The competent authorities are authorized by paragraph 3 of 
Article 25 (Mutual Agreement Procedure) to consult, if 
necessary, to resolve any differences in the application of 
these provisions. For example, there may be a disagreement over 
whether an adjustment made by a Contracting State under 
paragraph 1 was appropriate.
    If a correlative adjustment is made under paragraph 2, it 
is to be implemented, pursuant to paragraph 2 of Article 25 
(Mutual Agreement Procedure), notwithstanding any time limits 
or other procedural limitations in the law of the Contracting 
State making the adjustment. If a taxpayer has entered a 
closing agreement (or other written settlement) with the United 
States prior to bringing a case to the competent authorities, 
the U.S. competent authority will endeavor only to obtain a 
correlative adjustment from Malta. See, Rev. Proc. 2006-54, 
2006-49 I.R.B. 1035, Section 7.05.
Relationship to Other Articles
    The saving clause of paragraph 4 of Article 1 (General 
Scope) does not apply to paragraph 2 of Article 9 by virtue of 
an exception to the saving clause in subparagraph 5(a) of 
Article 1. Thus, even if the statute of limitations has run, a 
refund of tax can be made in order to implement a correlative 
adjustment. Statutory or procedural limitations, however, 
cannot be overridden to impose additional tax, because 
paragraph 2 of Article 1 provides that the Convention cannot 
restrict any statutory benefit.

                         ARTICLE 10 (DIVIDENDS)

    Article 10 provides rules for the taxation of dividends 
paid by a company that is a resident of one Contracting State 
to a beneficial owner that is a resident of the other 
Contracting State. The Article provides for full residence-
State taxation of such dividends and a limited source-State 
right to tax. Article 10 also provides rules for the imposition 
of a tax on branch profits by the State of source. Finally, the 
article prohibits a State from imposing taxes on a company 
resident in the other Contracting State, other than a branch 
profits tax, on undistributed earnings.
Paragraph 1
    The right of a shareholder's country of residence to tax 
dividends arising in the source country is preserved by 
paragraph 1, which permits a Contracting State to tax its 
residents on dividends paid to them by a company that is a 
resident of the other Contracting State. For dividends from any 
other source paid to a resident, Article 21 (Other Income) 
grants the residence country exclusive taxing jurisdiction 
(other than for dividends attributable to a permanent 
establishment in the other State).
Paragraph 2
    The State of source also may tax dividends beneficially 
owned by a resident of the other State, subject to the 
limitations of paragraphs 2 and 3. With respect to dividends 
paid by a company resident in the United States, paragraph 2(a) 
generally limits the rate of U.S. withholding tax State to 15 
percent of the gross amount of the dividend. If, however, the 
beneficial owner of the dividend is a company resident in Malta 
and owns directly shares representing at least 10 percent of 
the voting power of the company paying the dividend, then the 
rate of withholding tax in the United States is limited to 5 
percent of the gross amount of the dividend. Shares are 
considered voting shares if they provide the power to elect, 
appoint or replace any person vested with the powers ordinarily 
exercised by the board of directors of a U.S. corporation. With 
respect to dividends paid by a company resident in Malta to a 
beneficial owner that is a resident of the United States, 
subparagraph 2(b) limits the tax that may be charged by Malta 
to the Maltese tax chargeable on the profits out of which the 
dividends are paid.
    The benefits of paragraph 2 may be granted at the time of 
payment by means of reduced rate of withholding tax at source. 
It also is consistent with the paragraph for tax to be withheld 
at the time of payment at full statutory rates, and the treaty 
benefit to be granted by means of a subsequent refund so long 
as such procedures are applied in a reasonable manner.
    The determination of whether the ownership threshold for 
subparagraph 2(a)(i) is met for purposes of the 5 percent 
maximum rate of withholding tax is made on the date on which 
entitlement to the dividend is determined. Thus, the 
determination would generally be made on the dividend record 
date.
    Paragraph 2 does not affect the taxation of the profits out 
of which the dividends are paid. The taxation by a Contracting 
State of the income of its resident companies is governed by 
the internal law of the Contracting State, subject to the 
provisions of paragraph 4 of Article 24 (Non-Discrimination).
    The term ``beneficial owner'' is not defined in the 
Convention, and is, therefore, defined as under the internal 
law of the State granting treaty benefits (i.e., the source 
State). The beneficial owner of the dividend for purposes of 
Article 10 is the person to which the income is attributable 
under the laws of the source State. Thus, if a dividend paid by 
a corporation that is a resident of one of the States (as 
determined under Article 4 (Residence)) is received by a 
nominee or agent that is a resident of the other State on 
behalf of a person that is not a resident of that other State, 
the dividend is not entitled to the benefits of this Article. 
However, a dividend received by a nominee on behalf of a 
resident of that other State would be entitled to benefits. 
These limitations are confirmed by paragraph 12 of the 
Commentary to Article 10 of the OECD Model. See also paragraph 
24 of the Commentary to Article 1 of the OECD Model.
    Special rules, however, apply to shares that are held 
through fiscally transparent entities. In that case, the rules 
of paragraph 6 of Article 1 (General Scope) will apply to 
determine whether the dividends should be treated as having 
been derived by a resident of a Contracting State. Residence-
State principles shall be used to determine who derives the 
dividend, to assure that the dividends for which the source 
State grants benefits of the Convention will be taken into 
account for tax purposes by a resident of the residence State. 
Source State principles of beneficial ownership shall then 
apply to determine whether the person who derives the 
dividends, or another resident of the other Contracting State, 
is the beneficial owner of the dividend. If the person who 
derives the dividend under paragraph 6 of Article 1 would not 
be treated a nominee, agent, custodian, conduit, etc. under the 
source State's principles for determining beneficial ownership 
as, that person will be treated as the beneficial owner of the 
income, profits or gains for purposes of the Convention.
    Assume for instance, that a company resident in Malta pays 
a dividend to LLC, an entity that is treated as fiscally 
transparent for U.S. tax purposes but is treated as a company 
for Maltese tax purposes. USCo, a company incorporated in the 
United States, is the sole interest holder in LLC. Paragraph 6 
of Article 1 provides that USCo derives the dividend. Malta's 
principles of beneficial ownership shall then be applied to 
USCo. If under the laws of Malta USCo is found not to be the 
beneficial owner of the dividend, USCo will not be entitled to 
the benefits of Article 10 with respect to such dividend. The 
payment may be entitled to benefits, however, if USCo is found 
to be a nominee, agent, custodian, or conduit for another 
person who is a resident of the United States.
    Beyond identifying the person to whom the principles of 
beneficial ownership shall be applied, the principles of 
paragraph 6 of Article 1 will also apply when determining 
whether other requirements, such as the ownership threshold of 
subparagraph 2(a)(i) have been satisfied.
    For example, assume that MCo, a company that is a resident 
of Malta, owns all of the outstanding shares in ThirdDE, an 
entity that is disregarded for U.S. tax purposes that is 
resident in a third country. ThirdDE owns 100% of the stock of 
USCo. Malta views ThirdDE as fiscally transparent under its 
domestic law, and taxes MCo currently on the income derived by 
ThirdDE. In this case, MCo is treated as deriving the dividends 
paid by USCo under paragraph 6 of Article 1. Moreover, MCo is 
treated as owning the shares of USCo directly. The Convention 
does not address what constitutes direct ownership for purposes 
of Article 10. As a result, whether ownership is direct is 
determined under the internal law of the State granting treaty 
benefits (i.e., the source State) unless the context otherwise 
requires. Accordingly, a company that holds stock through such 
an entity will generally be considered to directly own such 
stock for purposes of Article 10.
    This result may change, however, if ThirdDE is regarded as 
non-fiscally transparent under the laws of Malta. Assuming that 
ThirdDE is treated as non-fiscally transparent by Malta, the 
income will not be treated as derived by a resident of Malta 
for purposes of the Convention. However, ThirdDE may still be 
entitled to the benefits of the U.S. tax treaty, if any, with 
its country of residence.
    The same principles would apply in determining whether 
companies holding shares through fiscally transparent entities 
such as partnerships, trusts, and estates would qualify for 
benefits. As a result, companies holding shares through such 
entities may be able to claim the benefits of subparagraph 
(a)(i) under certain circumstances. The lower rate applies when 
the company's proportionate share of the shares held by the 
intermediate entity meets the 10 percent threshold, and the 
company meets the requirements of subparagraph 6 of Article 1 
(i.e., the company's country of residence treats the 
intermediate entity as fiscally transparent) with respect to 
the dividend. Whether this ownership threshold is satisfied may 
be difficult to determine and often will require an analysis of 
the partnership or trust agreement.
Paragraph 3
    Paragraph 3 provides that dividends beneficially owned by a 
pension fund may not be taxed in the Contracting State of which 
the company paying the tax is a resident, unless such dividends 
are derived from the carrying on of a business, directly or 
indirectly, by the pension fund or through an associated 
enterprise. For these purposes, the term ``pension fund'' is 
defined in subparagraph 1(k) of Article 3 (General 
Definitions).
Paragraph 4
    Paragraph 4 imposes limitations on the rate reductions 
provided by paragraphs 2 and 3 in the case of dividends paid by 
RIC or a REIT.
    The first sentence of subparagraph 4(a) provides that 
dividends paid by a RIC or REIT are not eligible for the 5 
percent rate of withholding tax of subparagraph 2(a)(i).
    The second sentence of subparagraph 4(a) provides that the 
15 percent maximum rate of withholding tax of subparagraph 
2(a)(ii) applies to dividends paid by RICs and that the 
elimination of source-country withholding tax of paragraph 3 
applies to dividends paid by RICs and beneficially owned by a 
pension fund.
    The third sentence of subparagraph 4(a) provides that the 
15 percent rate of withholding tax also applies to dividends 
paid by a REIT and that the elimination of source-country 
withholding tax of paragraph 3 applies to dividends paid by 
REITs and beneficially owned by a pension fund, provided that 
one of the three following conditions is met. First, the 
beneficial owner of the dividend is an individual or a pension 
fund, in either case holding an interest of not more than 10 
percent in the REIT. Second, the dividend is paid with respect 
to a class of stock that is publicly traded and the beneficial 
owner of the dividend is a person holding an interest of not 
more than 5 percent of any class of the REIT's shares. Third, 
the beneficial owner of the dividend holds an interest in the 
REIT of not more than 10 percent and the REIT is 
``diversified.''
    Subparagraph (b) provides a definition of the term 
``diversified.'' A REIT is diversified if the gross value of no 
single interest in real property held by the REIT exceeds 10 
percent of the gross value of the REIT's total interest in real 
property. Foreclosure property is not considered an interest in 
real property, and a REIT holding a partnership interest is 
treated as owning its proportionate share of any interest in 
real property held by the partnership.
    The restrictions set out above are intended to prevent the 
use of these entities to gain inappropriate U.S. tax benefits. 
For example, a company resident in Malta that wishes to hold a 
diversified portfolio of U.S. corporate shares could hold the 
portfolio directly and would bear a U.S. withholding tax of 15 
percent on all of the dividends that it receives. 
Alternatively, it could hold the same diversified portfolio by 
purchasing 10 percent or more of the interests in a RIC that in 
turn held the portfolio. Absent the special rule in paragraph 
4, such use of the RIC could transform portfolio dividends, 
taxable in the United States under the Convention at a 15 
percent maximum rate of withholding tax, into direct investment 
dividends taxable at a 5 percent maximum rate of withholding 
tax or eligible for the elimination of source-country 
withholding tax on dividends paid to pension funds.
    Similarly, a resident of Malta directly holding U.S. real 
property would pay U.S. tax upon the sale of the property 
either at a 30 percent rate of withholding tax on the gross 
income or at graduated rates on the net income. As in the 
preceding example, by placing the real property in a REIT, the 
investor could, absent a special rule, transform income from 
the sale of real estate into dividend income from the REIT, 
taxable at the rates provided in Article 10, significantly 
reducing the U.S. tax that otherwise would be imposed. 
Paragraph 4 prevents this result and thereby avoids a disparity 
between the taxation of direct real estate investments and real 
estate investments made through REITs. In the cases in which 
paragraph 4 allows a dividend from a REIT to be eligible for 
the 15 percent rate of withholding tax, the holding in the REIT 
is not considered the equivalent of a direct holding in the 
underlying real property.
Paragraph 5
    Paragraph 5 defines the term dividends broadly and 
flexibly. The definition is intended to cover all arrangements 
that yield a return on an equity investment in a corporation as 
determined under the tax law of the state of source, as well as 
arrangements that might be developed in the future.
    The term includes income from shares, or other corporate 
rights that are not treated as debt under the law of the source 
State, that participate in the profits of the company. The term 
also includes income that is subjected to the same tax 
treatment as income from shares by the law of the State of 
source. Thus, a constructive dividend that results from a non-
arm's length transaction between a corporation and a related 
party is a dividend. In the case of the United States the term 
dividend includes amounts treated as a dividend under U.S. law 
upon the sale or redemption of shares or upon a transfer of 
shares in a reorganization. See, e.g., Rev. Rul. 92-85, 1992-2 
C.B. 69 (sale of foreign subsidiary's stock to U.S. sister 
company is a deemed dividend to extent of the subsidiary's and 
sister company's earnings and profits). Further, a distribution 
from a U.S. publicly traded limited partnership, which is taxed 
as a corporation under U.S. law, is a dividend for purposes of 
Article 10. However, a distribution by a limited liability 
company is not taxable by the United States under Article 10, 
provided the limited liability company is not characterized as 
an association taxable as a corporation under U.S. law.
    Finally, a payment denominated as interest that is made by 
a thinly capitalized corporation may be treated as a dividend 
to the extent that the debt is recharacterized as equity under 
the laws of the source State.
Paragraph 6
    Paragraph 6 provides a rule for taxing dividends paid with 
respect to holdings that form part of the business property of 
a permanent establishment. In such case, the rules of Article 7 
(Business Profits) shall apply. Accordingly, the dividends will 
be taxed on a net basis using the rates and rules of taxation 
generally applicable to residents of the State in which the 
permanent establishment is located, as such rules may be 
modified by the Convention. An example of dividends paid with 
respect to the business property of a permanent establishment 
would be dividends derived by a dealer in stock or securities 
from stock or securities that the dealer held for sale to 
customers.
Paragraph 7
    The right of a Contracting State to tax dividends paid by a 
company that is a resident of the other Contracting State is 
restricted by paragraph 7 to cases in which the dividends are 
paid to a resident of that Contracting State or are 
attributable to a permanent establishment or fixed base in that 
Contracting State. Thus, a Contracting State may not impose a 
``secondary'' withholding tax on dividends paid by a 
nonresident company out of earnings and profits from that 
Contracting State.
    The paragraph also restricts the right of a Contracting 
State to impose corporate level taxes on undistributed profits, 
other than a branch profits tax. The paragraph does not 
restrict a State's right to tax its resident shareholders on 
undistributed earnings of a corporation resident in the other 
State. Thus, the authority of the United States to impose taxes 
on subpart F income and on earnings deemed invested in U.S. 
property, and its tax on income of a passive foreign investment 
company that is a qualified electing fund is in no way 
restricted by this provision.
Paragraph 8
    Paragraph 8 permits a Contracting State to impose a branch 
profits tax on a company resident in the other Contracting 
State. The tax is in addition to other taxes permitted by the 
Convention. The term ``company'' is defined in subparagraph 
1(b) of Article 3 (General Definitions).
    A Contracting State may impose a branch profits tax on a 
company if the company has income attributable to a permanent 
establishment in that Contracting State, derives income from 
real (immovable) property in that Contracting State that is 
taxed on a net basis under Article 6 (Income from Real 
(Immovable) Property), or realizes gains taxable in that State 
under paragraph 1 of Article 13 (Gains). In the case of the 
United States, the imposition of such tax is limited, however, 
to the portion of the aforementioned items of income that 
represents the amount of such income that is the ``dividend 
equivalent amount.'' This is consistent with the relevant rules 
under the U.S. branch profits tax, and the term dividend 
equivalent amount is defined under U.S. law. Section 884 
defines the dividend equivalent amount as an amount for a 
particular year that is equivalent to the income described 
above that is included in the corporation's effectively 
connected earnings and profits for that year, after payment of 
the corporate tax under Articles 6 (Income from Real 
(Immovable) Property), 7 (Business Profits) or 13 (Gains), 
reduced for any increase in the branch's U.S. net equity during 
the year or increased for any reduction in its U.S. net equity 
during the year. U.S. net equity is U.S. assets less U.S. 
liabilities. See Treas. Reg. section 1.884-1.
    The dividend equivalent amount for any year approximates 
the dividend that a U.S. branch office would have paid during 
the year if the branch had been operated as a separate U.S. 
subsidiary company. If Malta also imposes a branch profits tax, 
the base of its tax must be limited to an amount that is 
analogous to the dividend equivalent amount.
    As discussed in the explanation of paragraph 2 of Article 1 
(General Scope), consistency principles prohibit a taxpayer 
from applying provisions of the Code and this Convention 
inconsistently. In the context of the branch profits tax, this 
consistency requirement means that if a Maltese company uses 
the principles of Article 7 to determine its U.S. taxable 
income then it must also use those principles to determine its 
dividend equivalent amount. Similarly, if the Maltese company 
instead uses the Code to determine its U.S. taxable income it 
must also use the Code to determine its dividend equivalent 
amount. As in the case of Article 7, if a Maltese company, for 
example, does not from year to year consistently apply the Code 
or the Convention to determine its dividend equivalent amount, 
then the Maltese company must make appropriate adjustments or 
recapture amounts that would otherwise be subject to U.S. 
branch profits tax if it had consistently applied the Code or 
the Convention to determine its dividend equivalent amount from 
year to year.
    Subparagraph (b) provides that the branch profits tax shall 
not be imposed at a rate exceeding five percent. It is intended 
that subparagraph (b) apply equally if a taxpayer determines 
its taxable income under the laws of a Contracting State or 
under the provisions of Article 7. For example, as discussed 
above, consistency principles require a Maltese company that 
determines its U.S. taxable income under the Code to also 
determine its dividend equivalent amount under the Code. In 
that case, subparagraph (b) would apply even though the Maltese 
company did not determine its dividend equivalent amount using 
the principles of Article 7.
Relationship to Other Articles
    Notwithstanding the foregoing limitations on source country 
taxation of dividends, the saving clause of paragraph 4 of 
Article 1 permits the United States to tax dividends received 
by its residents and citizens, subject to the special foreign 
tax credit rules of paragraph 4 of Article 23 (Relief from 
Double Taxation), as if the Convention had not come into 
effect.
    The benefits of this Article are also subject to the 
provisions of Article 22 (Limitation on Benefits). Thus, if a 
resident of the other Contracting State is the beneficial owner 
of dividends paid by a U.S. corporation, the shareholder must 
qualify for treaty benefits under at least one of the tests of 
Article 22 in order to receive the benefits of this Article.

                         ARTICLE 11 (INTEREST)

    Article 11 provides rules for the taxation of interest 
arising in one Contracting State and paid to a beneficial owner 
that is a resident of the other Contracting State.
Paragraph 1
    Paragraph 1 grants to the State of residence the non-
exclusive right to tax interest beneficially owned by its 
residents and arising in the other Contracting State.
    The term ``beneficial owner'' is not defined in the 
Convention, and is, therefore, defined under the internal law 
of the State granting treaty benefits (i.e., the source State). 
The beneficial owner of the interest for purposes of Article 11 
is the person to which the income is attributable under the 
laws of the source State. Thus, if interest arising in a 
Contracting State is received by a nominee or agent that is a 
resident of the other State on behalf of a person that is not a 
resident of that other State, the interest is not entitled to 
the benefits of Article 11. However, interest received by a 
nominee on behalf of a resident of that other State would be 
entitled to benefits. These limitations are confirmed by 
paragraph 9 of the OECD Commentary to Article 11.
Paragraph 2
    Paragraph 2 provides that the State of source also may tax 
interest beneficially owned by a resident of the other 
Contracting State, but the rate of tax shall be limited to 10 
percent of the gross amount of the interest.
Paragraph 3
    Paragraph 3 provides anti-abuse exceptions to paragraphs 1 
and 2 for two classes of interest payments.
    The first class of interest, dealt with in subparagraph (a) 
is U.S.-source contingent interest of a type that does not 
qualify as portfolio interest under U.S. domestic law. The 
cross-reference to the U.S. definition of contingent interest, 
which is found in section 871(h)(4) of the Code, is intended to 
ensure that the exceptions of section 871(h)(4)(c) will be 
applicable. Any such interest may be taxed in the United States 
according to U.S. domestic law. If the beneficial owner is a 
resident of Malta, however, the gross amount of the interest 
may be taxed at a rate not exceeding 15 percent.
    The second class of interest is dealt with in subparagraph 
c) of paragraph 2. This exception is consistent with the policy 
of Code sections 860E(e) and 860G(b) that excess inclusions 
with respect to a real estate mortgage investment conduit 
(REMIC) should bear full U.S. tax in all cases. Without a full 
tax at source foreign purchasers of residual interests would 
have a competitive advantage over U.S. purchasers at the time 
these interests are initially offered. Also, absent this rule, 
the U.S. fisc would suffer a revenue loss with respect to 
mortgages held in a REMIC because of opportunities for tax 
avoidance created by differences in the timing of taxable and 
economic income produced by these interests.
Paragraph 4
    The term ``interest'' as used in Article 11 is defined in 
paragraph 4 to include, inter alia, income from debt claims of 
every kind, whether or not secured by a mortgage. Penalty 
charges for late payment are excluded from the definition of 
interest. Interest that is paid or accrued subject to a 
contingency is within the ambit of Article 11. This includes 
income from a debt obligation carrying the right to participate 
in profits. The term does not, however, include amounts that 
are treated as dividends under Article 10 (Dividends).
    The term interest also includes amounts subject to the same 
tax treatment as income from money lent under the law of the 
State in which the income arises. Thus, for purposes of the 
Convention, amounts that the United States will treat as 
interest include (i) the difference between the issue price and 
the stated redemption price at maturity of a debt instrument 
(i.e., original issue discount (``OID'')), which may be wholly 
or partially realized on the disposition of a debt instrument 
(section 1273), (ii) amounts that are imputed interest on a 
deferred sales contract (section 483), (iii) amounts treated as 
interest or OID under the stripped bond rules (section 1286), 
(iv) amounts treated as original issue discount under the 
below-market interest rate rules (section 7872), (v) a 
partner's distributive share of a partnership's interest income 
(section 702), (vi) the interest portion of periodic payments 
made under a ``finance lease'' or similar contractual 
arrangement that in substance is a borrowing by the nominal 
lessee to finance the acquisition of property, (vii) amounts 
included in the income of a holder of a residual interest in a 
REMIC (section 860E), because these amounts generally are 
subject to the same taxation treatment as interest under U.S. 
tax law, and (viii) interest with respect to notional principal 
contracts that are re-characterized as loans because of a 
``substantial non-periodic payment.''
Paragraph 5
    Paragraph 5 provides a rule for taxing interest in cases 
where the beneficial owner of the interest carries on business 
through a permanent establishment in the State of source 
situated in that State and the interest is attributable to that 
permanent establishment. In such cases the provisions of 
Article 7 (Business Profits) will apply and the State of source 
will retain the right to impose tax on such interest income.
    In the case of a permanent establishment that once existed 
in the State of source but that no longer exists, the 
provisions of paragraph 5 also apply, by virtue of paragraph 7 
of Article 7, to interest that would be attributable to such a 
permanent establishment or fixed base if it did exist in the 
year of payment or accrual. See the Technical Explanation of 
paragraph 7 of Article 7.
Paragraph 6
    Paragraph 6 provides a source rule for interest that is 
identical in substance to the interest source rule of the OECD 
Model. Interest is considered to arise in a Contracting State 
if paid by a resident of that State. As an exception, interest 
on a debt incurred in connection with a permanent establishment 
in one of the States and borne by the permanent establishment 
is deemed to arise in that State. For this purpose, interest is 
considered to be borne by a permanent establishment if it is 
allocable to taxable income of that permanent establishment
Paragraph 7
    Paragraph 7 provides that in cases involving special 
relationships between the payor and the beneficial owner of 
interest income, Article 11 applies only to that portion of the 
total interest payments that would have been made absent such 
special relationships (i.e., an arm's-length interest payment). 
Any excess amount of interest paid remains taxable according to 
the laws of the United States and Malta, respectively, with due 
regard to the other provisions of the Convention. Thus, if the 
excess amount would be treated under the source country's law 
as a distribution of profits by a corporation, such amount 
could be taxed as a dividend rather than as interest, but the 
tax would be subject, if appropriate, to the rate limitations 
of paragraph 2 of Article 10 (Dividends).
    The term ``special relationship'' is not defined in the 
Convention. In applying this paragraph the United States 
considers the term to include the relationships described in 
Article 9, which in turn corresponds to the definition of 
``control'' for purposes of section 482 of the Code.
    This paragraph does not address cases where, owing to a 
special relationship between the payer and the beneficial owner 
or between both of them and some other person, the amount of 
the interest is less than an arm's-length amount. In those 
cases a transaction may be characterized to reflect its 
substance and interest may be imputed consistent with the 
definition of interest in paragraph 4. The United States would 
apply section 482 or 7872 of the Code to determine the amount 
of imputed interest in those cases.
Paragraph 8
    Paragraph 8 permits the United States to impose its branch 
level interest tax on a corporation resident in Malta. The base 
of this tax is the excess, if any, of the interest deductible 
in the United States in computing the profits of the 
corporation that are subject to tax in the United States and 
either attributable to a permanent establishment in the United 
States or subject to tax in the United States under Article 6 
(Income from Real Property) or paragraph 1 of Article 13 
(Alienation of Property) of the Convention over the interest 
paid by the permanent establishment or trade or business in the 
United States. Such excess interest may be taxed as if it were 
interest arising in the United States and beneficially owned by 
the corporation resident in Malta. Thus, such excess interest 
may be taxed by the United States at a rate not to exceed the 
10 percent rate provided for in paragraph 2.
Relationship to Other Articles
    Notwithstanding the foregoing limitations on source country 
taxation of interest, the saving clause of paragraph 4 of 
Article 1 permits the United States to tax its residents and 
citizens, subject to the special foreign tax credit rules of 
paragraph 4 of Article 23 (Relief from Double Taxation), as if 
the Convention had not come into force.
    As with other benefits of the Convention, the benefits of 
Article 11 are available to a resident of the other State only 
if that resident is entitled to those benefits under the 
provisions of Article 22 (Limitation on Benefits).

                         ARTICLE 12 (ROYALTIES)

    Article 12 provides rules for the taxation of royalties 
arising in one Contracting State and paid to a beneficial owner 
that is a resident of the other Contracting State.
Paragraph 1
    Paragraph 1 grants to the State of residence the non-
exclusive right to tax royalties beneficially owned by its 
residents and arising in the other Contracting State.
    The term ``beneficial owner'' is not defined in the 
Convention, and is, therefore, defined under the internal law 
of the State granting treaty benefits (i.e., the source State). 
The beneficial owner of the royalty for purposes of Article 12 
is the person to which the income is attributable under the 
laws of the source State. Thus, if a royalty arising in a 
Contracting State is received by a nominee or agent that is a 
resident of the other State on behalf of a person that is not a 
resident of that other State, the royalty is not entitled to 
the benefits of Article 12. However, a royalty received by a 
nominee on behalf of a resident of that other State would be 
entitled to benefits. These limitations are confirmed by 
paragraph 4 of the OECD Commentary to Article 12.
Paragraph 2
    Paragraph 2 provides that the State of source also may tax 
royalties beneficially owned by a resident of the other 
Contracting State, but the rate of tax shall be limited to 10 
percent of the gross amount of the royalties.
Paragraph 3
    Paragraph 3 defines the term ``royalties,`` as used in 
Article 12, to include any consideration for the use of, or the 
right to use, any copyright of literary, artistic, scientific 
or other work (such as cinematographic films), any patent, 
trademark, design or model, plan, secret formula or process, or 
for information concerning industrial, commercial, or 
scientific experience. The term ``royalties'' also includes 
gain derived from the alienation of any right or property that 
would give rise to royalties, to the extent the gain is 
contingent on the productivity, use, or further alienation 
thereof. Gains that are not so contingent are dealt with under 
Article 13 (Gains). The term ``royalties,'' however, does not 
include income from leasing personal property.
    The term royalties is defined in the Convention and 
therefore is generally independent of domestic law. Certain 
terms used in the definition are not defined in the Convention, 
but these may be defined under domestic tax law. For example, 
the term ``secret process or formulas'' is found in the Code, 
and its meaning has been elaborated in the context of sections 
351 and 367. See Rev. Rul. 55-17, 1955-1 C.B. 388; Rev. Rul. 
64-56, 1964-1 C.B. 133; Rev. Proc. 69-19, 1969-2 C.B. 301.
    Consideration for the use or right to use cinematographic 
films, or works on film, tape, or other means of reproduction 
in radio or television broadcasting is specifically included in 
the definition of royalties. It is intended that, with respect 
to any subsequent technological advances in the field of radio 
or television broadcasting, consideration received for the use 
of such technology will also be included in the definition of 
royalties.
    If an artist who is resident in one Contracting State 
records a performance in the other Contracting State, retains a 
copyrighted interest in a recording, and receives payments for 
the right to use the recording based on the sale or public 
playing of the recording, then the right of such other 
Contracting State to tax those payments is governed by Article 
12. See Boulez v. Commissioner, 83 T.C. 584 (1984), affd, 810 
F.2d 209 (D.C. Cir. 1986). By contrast, if the artist earns in 
the other Contracting State income covered by Article 16 
(Entertainers and Sportsmen), for example, endorsement income 
from the artist's attendance at a film screening, and if such 
income also is attributable to one of the rights described in 
Article 12 (e.g., the use of the artist's photograph in 
promoting the screening), Article 16 and not Article 12 is 
applicable to such income.
    Computer software generally is protected by copyright laws 
around the world. Under the Convention, consideration received 
for the use, or the right to use, computer software is treated 
either as royalties or as business profits, depending on the 
facts and circumstances of the transaction giving rise to the 
payment.
    The primary factor in determining whether consideration 
received for the use, or the right to use, computer software is 
treated as royalties or as business profits is the nature of 
the rights transferred. See Treas. Reg. section 1.861-18. The 
fact that the transaction is characterized as a license for 
copyright law purposes is not diapositive. For example, a 
typical retail sale of ``shrink wrap'' software generally will 
not be considered to give rise to royalty income, even though 
for copyright law purposes it may be characterized as a 
license.
    The means by which the computer software is transferred are 
not relevant for purposes of the analysis. Consequently, if 
software is electronically transferred but the rights obtained 
by the transferee are substantially equivalent to rights in a 
program copy, the payment will be considered business profits.
    The term ``industrial, commercial, or scientific 
experience'' (sometimes referred to as ``know-how'') has the 
meaning ascribed to it in paragraph 11 et seq. of the 
Commentary to Article 12 of the OECD Model. Consistent with 
that meaning, the term may include information that is 
ancillary to a right otherwise giving rise to royalties, such 
as a patent or secret process.
    Know-how also may include, in limited cases, technical 
information that is conveyed through technical or consultancy 
services. It does not include general educational training of 
the user's employees, nor does it include information developed 
especially for the user, such as a technical plan or design 
developed according to the user's specifications. Thus, as 
provided in paragraph 11.3 of the Commentary to Article 12 of 
the OECD Model, the term ``royalties'' does not include 
payments received as consideration for after-sales service, for 
services rendered by a seller to a purchaser under a warranty, 
or for pure technical assistance.
    The term ``royalties'' also does not include payments for 
professional services (such as architectural, engineering, 
legal, managerial, medical, software development services). For 
example, income from the design of a refinery by an engineer 
(even if the engineer employed know-how in the process of 
rendering the design) or the production of a legal brief by a 
lawyer is not income from the transfer of know-how taxable 
under Article 12, but is income from services taxable under 
either Article 7 (Business Profits) or Article 14 (Income from 
Employment). Professional services may be embodied in property 
that gives rise to royalties, however. Thus, if a professional 
contracts to develop patentable property and retains rights in 
the resulting property under the development contract, 
subsequent license payments made for those rights would be 
royalties.
Paragraph 4
    This paragraph provides a rule for taxing royalties in 
cases where the beneficial owner of the royalties carries on 
business through a permanent establishment in the state of 
source and the royalties are attributable to that permanent 
establishment. In such cases the provisions of Article 7 will 
apply.
    The provisions of paragraph 7 of Article 7 apply to this 
paragraph. For example, royalty income that is attributable to 
a permanent establishment and that accrues during the existence 
of the permanent establishment, but is received after the 
permanent establishment no longer exists, remains taxable under 
the provisions of Article 7, and not under this Article.
Paragraph 5
    Paragraph 5 contains the source rule for royalties. Under 
paragraph 5, royalties are treated as arising in a Contracting 
State when they are in consideration for the use of, or the 
right to use, property, information or experience in that 
State. This source rule parallels the source rule in section 
861(a)(4) of the Code.
Paragraph 6
    Paragraph 6 provides that in cases involving special 
relationships between the payor and beneficial owner of 
royalties, Article 12 applies only to the extent the royalties 
would have been paid absent such special relationships (i.e., 
an arm's-length royalty). Any excess amount of royalties paid 
remains taxable according to the laws of the two Contracting 
States, with due regard to the other provisions of the 
Convention. If, for example, the excess amount is treated as a 
distribution of corporate profits under domestic law, such 
excess amount will be taxed as a dividend rather than as 
royalties, but the tax imposed on the dividend payment will be 
subject to the rate limitations of paragraph 2 of Article 10 
(Dividends).
Relationship to Other Articles
    Notwithstanding the foregoing limitations on source country 
taxation of royalties, the saving clause of paragraph 4 of 
Article 1 (General Scope) permits the United States to tax its 
residents and citizens, subject to the special foreign tax 
credit rules of paragraph 4 of Article 23 (Relief from Double 
Taxation), as if the Convention had not come into force.
    As with other benefits of the Convention, the benefits of 
Article 12 are available to a resident of the other State only 
if that resident is entitled to those benefits under Article 22 
(Limitation on Benefits).

                           ARTICLE 13 (GAINS)

    Article 13 assigns either primary or exclusive taxing 
jurisdiction over gains from the alienation of property to the 
State of residence or the State of source.
Paragraph 1
    Paragraph 1 of Article 13 preserves the non-exclusive right 
of the State of source to tax gains attributable to the 
alienation of real property situated in that State. The 
paragraph therefore permits the United States to apply section 
897 of the Code to tax gains derived by a resident of Malta 
that are attributable to the alienation of real property 
situated in the United States (as defined in paragraph 2). 
Gains attributable to the alienation of real property include 
gains from any other property that is treated as a real 
property interest within the meaning of paragraph 2.
    Paragraph 1 refers to gains ``attributable to the 
alienation of real (immovable) property'' rather than the OECD 
Model phrase ``gains from the alienation'' to clarify that the 
United States will look through distributions made by a REIT 
and certain RICs. Accordingly, distributions made by a REIT or 
certain RICs are taxable under paragraph 1 of Article 13 (not 
under Article 10 (Dividends)) when they are attributable to 
gains derived from the alienation of real property.
Paragraph 2
    This paragraph defines the term ``real (immovable) property 
situated in the other Contracting State.'' The term includes 
real (immovable) property referred to in Article 6 (i.e., an 
interest in the real (immovable) property itself), a ``United 
States real property interest'' (when the United States is the 
other Contracting State under paragraph 1), and an equivalent 
interest in real (immovable) property situated in Malta (when 
Malta is the other Contracting State under paragraph 1).
    Under section 897(c) of the Code the term ``United States 
real property interest'' includes shares in a U.S. corporation 
that owns sufficient U.S. real property interests to satisfy an 
asset-ratio test on certain testing dates. The term also 
includes certain foreign corporations that have elected to be 
treated as U.S. corporations for this purpose. Section 897(i).
Paragraph 3
    Paragraph 3 of Article 13 deals with the taxation of 
certain gains from the alienation of movable property forming 
part of the business property of a permanent establishment that 
an enterprise of a Contracting State has in the other 
Contracting State. This also includes gains from the alienation 
of such a permanent establishment (alone or with the whole 
enterprise). Such gains may be taxed in the State in which the 
permanent establishment is located.
    A resident of Malta that is a partner in a partnership 
doing business in the United States generally will have a 
permanent establishment in the United States as a result of the 
activities of the partnership, assuming that the activities of 
the partnership rise to the level of a permanent establishment. 
Rev. Rul. 91-32, 1991-1 C.B. 107. Further, under paragraph 3, 
the United States generally may tax a partner's distributive 
share of income realized by a partnership on the disposition of 
movable property forming part of the business property of the 
partnership in the United States.
    The gains subject to paragraph 3 may be taxed in the State 
in which the permanent establishment is located, regardless of 
whether the permanent establishment exists at the time of the 
alienation. This rule incorporates the rule of section 
864(c)(6) of the Code. Accordingly, income that is attributable 
to a permanent establishment, but that is deferred and received 
after the permanent establishment no longer exists, may 
nevertheless be taxed by the State in which the permanent 
establishment was located.
Paragraph 4
    This paragraph limits the taxing jurisdiction of the State 
of source with respect to gains from the alienation of ships or 
aircraft operated in international traffic by the enterprise 
alienating the ship or aircraft and from property (other than 
real (immovable) property) pertaining to the operation or use 
of such ships, aircraft, or containers.
    Under paragraph 4, such income is taxable only in the 
Contracting State in which the alienator is resident. 
Notwithstanding paragraph 3, the rules of this paragraph apply 
even if the income is attributable to a permanent establishment 
maintained by the enterprise in the other Contracting State. 
This result is consistent with the allocation of taxing rights 
under Article 8 (Shipping and Air Transport).
Paragraph 5
    Paragraph 5 provides a rule similar to paragraph 4 with 
respect to gains from the alienation of containers and related 
personal property. Such gains derived by an enterprise of a 
Contracting State shall be taxable only in that Contracting 
State unless the containers were used for the transport of 
goods or merchandise solely within the other Contracting State. 
The other Contracting State may not tax the gain, even if the 
gain is attributable to a permanent establishment maintained by 
the enterprise in that other Contracting State.
Paragraph 6
    Paragraph 6 grants to the State of residence of the 
alienator the exclusive right to tax gains from the alienation 
of property other than property referred to in paragraphs 1 
through 5. For example, gain derived from shares, other than 
shares described in paragraphs 2 or 3, debt instruments and 
various financial instruments, may be taxed only in the State 
of residence, to the extent such income is not otherwise 
characterized as income taxable under another article (e.g., 
Article 10 (Dividends) or Article 11 (Interest)). Similarly 
gain derived from the alienation of tangible personal property, 
other than tangible personal property described in paragraph 3, 
may be taxed only in the State of residence of the alienator.
    Gain derived from the alienation of any property, such as a 
patent or copyright, that produces income covered by Article 12 
(Royalties) is governed by the rules of Article 12 and not by 
this article, provided that such gain is of the type described 
in paragraph 3(b) of Article 12 (i.e., it is contingent on the 
productivity, use, or disposition of the property).
    Gains derived by a resident of a Contracting State from 
real (immovable) property located in a third state are not 
taxable in the other Contracting State, even if the sale is 
attributable to a permanent establishment located in the other 
Contracting State.
Relationship to Other Articles
    Notwithstanding the foregoing limitations on taxation of 
certain gains by the State of source, the saving clause of 
paragraph 4 of Article 1 (General Scope) permits the United 
States to tax its citizens and residents as if the Convention 
had not come into effect. Thus, any limitation in this Article 
on the right of the United States to tax gains does not apply 
to gains of a U.S. citizen or resident.
    The benefits of this Article are also subject to the 
provisions of Article 22 (Limitation on Benefits). Thus, only a 
resident of a Contracting State that satisfies one of the 
conditions in Article 22 is entitled to the benefits of this 
Article.

                  ARTICLE 14 (INCOME FROM EMPLOYMENT)

    Article 14 apportions taxing jurisdiction over remuneration 
derived by a resident of a Contracting State as an employee 
between the States of source and residence.
Paragraph 1
    The general rule of Article 14 is contained in paragraph 1. 
Remuneration derived by a resident of a Contracting State as an 
employee may be taxed by the State of residence, and the 
remuneration also may be taxed by the other Contracting State 
to the extent derived from employment exercised (i.e., services 
performed) in that other Contracting State. Paragraph 1 also 
provides that the more specific rules of Articles 15 
(Directors' Fees), 17 (Pensions, Social Security, Annuities, 
Alimony and Child Support), and 19 (Government Service) apply 
in the case of employment income described in one of those 
articles. Thus, even though the State of source has a right to 
tax employment income under Article 14, it may not have the 
right to tax that income under the Convention if the income is 
described, for example, in Article 17 and is not taxable in the 
State of source under the provisions of that article.
    Article 14 applies to any form of compensation for 
employment, including payments in kind. Paragraph 1.1 of the 
Commentary to Article 16 of the OECD Model confirms that 
interpretation.
    Consistent with section 864(c)(6) of the Code, Article 14 
also applies regardless of the timing of actual payment for 
services. Consequently, a person who receives the right to a 
future payment in consideration for services rendered in a 
Contracting State would be taxable in that State even if the 
payment is received at a time when the recipient is a resident 
of the other Contracting State. Thus, a bonus paid to a 
resident of a Contracting State with respect to services 
performed in the other Contracting State with respect to a 
particular taxable year would be subject to Article 14 for that 
year even if it was paid after the close of the year. An 
annuity received for services performed in a taxable year could 
be subject to Article 14 despite the fact that it was paid in 
subsequent years. In that case, it would be necessary to 
determine whether the payment constitutes deferred 
compensation, taxable under Article 14, or a qualified pension 
subject to the rules of Article 17. Article 14 also applies to 
income derived from the exercise of stock options granted with 
respect to services performed in the host State, even if those 
stock options are exercised after the employee has left the 
source country. If Article 14 is found to apply, whether such 
payments were taxable in the State where the employment was 
exercised would depend on whether the tests of paragraph 2 were 
satisfied in the year in which the services to which the 
payment relates were performed.
Paragraph 2
    Paragraph 2 sets forth an exception to the general rule 
that employment income may be taxed in the State where it is 
exercised. Under paragraph 2, the State where the employment is 
exercised may not tax the income from the employment if three 
conditions are satisfied: (a) the individual is present in the 
other Contracting State for a period or periods not exceeding 
183 days in any 12-month period that begins or ends during the 
relevant taxable year (i.e., in the United States, the calendar 
year in which the services are performed); (b) the remuneration 
is paid by, or on behalf of an employer who is not a resident 
of that other Contracting State; and (c) the remuneration is 
not borne as a deductible expense by a permanent establishment 
that the employer has in that other State. In order for the 
remuneration to be exempt from tax in the source State, all 
three conditions must be satisfied. This exception is identical 
to that set forth in the OECD Model.
    The 183-day period in condition (a) is to be measured using 
the ``days of physical presence'' method. Under this method, 
the days that are counted include any day in which a part of 
the day is spent in the host country. (Rev. Rul. 56-24, 1956-1 
C.B. 851.) Thus, days that are counted include the days of 
arrival and departure; weekends and holidays on which the 
employee does not work but is present within the country; 
vacation days spent in the country before, during or after the 
employment period, unless the individual's presence before or 
after the employment can be shown to be independent of his 
presence there for employment purposes; and time during periods 
of sickness, training periods, strikes, etc., when the 
individual is present but not working. If illness prevented the 
individual from leaving the country in sufficient time to 
qualify for the benefit, those days will not count. Also, any 
part of a day spent in the host country while in transit 
between two points outside the host country is not counted. If 
the individual is a resident of the host country for part of 
the taxable year concerned and a nonresident for the remainder 
of the year, the individual's days of presence as a resident do 
not count for purposes of determining whether the 183-day 
period is exceeded.
    Conditions (b) and (c) are intended to ensure that a 
Contracting State will not be required to allow a deduction to 
the payor for compensation paid and at the same time to exempt 
the employee on the amount received. Accordingly, if a foreign 
person pays the salary of an employee who is employed in the 
host State, but a host State corporation or permanent 
establishment reimburses the payor with a payment that can be 
identified as a reimbursement, neither condition (b) nor (c), 
as the case may be, will be considered to have been fulfilled.
    The reference to remuneration ``borne by'' a permanent 
establishment is understood to encompass all expenses that 
economically are incurred and not merely expenses that are 
currently deductible for tax purposes. Accordingly, the 
expenses referred to include expenses that are capitalizable as 
well as those that are currently deductible. Further, salaries 
paid by residents that are exempt from income taxation may be 
considered to be borne by a permanent establishment 
notwithstanding the fact that the expenses will be neither 
deductible nor capitalizable since the payor is exempt from 
tax.
Paragraph 3
    Paragraph 3 contains a special rule applicable to 
remuneration for services performed by a resident of a 
Contracting State as an employee aboard a ship or aircraft 
operated in international traffic. Such remuneration may be 
taxed only in the State of residence of the employee if the 
services are performed as a member of the regular complement of 
the ship or aircraft. The ``regular complement'' includes the 
crew. In the case of a cruise ship, for example, it may also 
include others, such as entertainers, lecturers, etc., employed 
by the shipping company to serve on the ship throughout its 
voyage. The use of the term ``regular complement'' is intended 
to clarify that a person who exercises his employment as, for 
example, an insurance salesman while aboard a ship or aircraft 
is not covered by this paragraph.
    If a U.S. citizen who is resident in Malta performs 
services as an employee in the United States and meets the 
conditions of paragraph 2 for source country exemption, he 
nevertheless is taxable in the United States by virtue of the 
saving clause of paragraph 4 of Article 1 (General Scope), 
subject to the special foreign tax credit rule of paragraph 4 
of Article 23 (Relief from Double Taxation).

                      ARTICLE 15 (DIRECTORS' FEES)

    This Article provides that a Contracting State may tax the 
fees and other compensation paid by a company that is a 
resident of that State for services performed in that State by 
a resident of the other Contracting State in his capacity as a 
director of the company. This rule is an exception to the more 
general rules of Articles 7 (Business Profits) and 14 (Income 
from Employment). Thus, for example, in determining whether a 
director's fee paid to a non-employee director is subject to 
tax in the country of residence of the corporation, it is not 
relevant to establish whether the fee is attributable to a 
permanent establishment in that State.
    This Article is subject to the saving clause of paragraph 4 
of Article 1 (General Scope). Thus, if a U.S. citizen who is a 
resident of Malta is a director of a U.S. corporation, the 
United States may tax his full remuneration regardless of where 
he performs his services.

                ARTICLE 16 (ENTERTAINERS AND SPORTSMEN)

    This Article deals with the taxation in a Contracting State 
of entertainers and sportsmen resident in the other Contracting 
State from the performance of their services as such. The 
Article applies both to the income of an entertainer or 
sportsman who performs services on his own behalf and one who 
performs services on behalf of another person, either as an 
employee of that person, or pursuant to any other arrangement. 
The rules of this Article take precedence, in some 
circumstances, over those of Articles 7 (Business Profits) and 
14 (Income from Employment).
    This Article applies only with respect to the income of 
entertainers and sportsmen. Others involved in a performance or 
athletic event, such as producers, directors, technicians, 
managers, coaches, etc., remain subject to the provisions of 
Articles 7 and 14. In addition, except as provided in paragraph 
2, income earned by juridical persons is not covered by Article 
16.
Paragraph 1
    Paragraph 1 describes the circumstances in which a 
Contracting State may tax the performance income of an 
entertainer or sportsman who is a resident of the other 
Contracting State. Under the paragraph, income derived by an 
individual resident of a Contracting State from activities as 
an entertainer or sportsman exercised in the other Contracting 
State may be taxed in that other State if the amount of the 
gross receipts derived by the performer exceeds $20,000 (or its 
equivalent in Euros) for the taxable year. The $20,000 includes 
expenses reimbursed to the individual or borne on his behalf. 
If the gross receipts exceed $20,000, the full amount, not just 
the excess, may be taxed in the State of performance.
    The Convention introduces this monetary threshold to 
distinguish between two groups of entertainers and athletes--
those who are paid relatively large sums of money for very 
short periods of service, and who would, therefore, normally be 
exempt from host country tax under the standard personal 
services income rules, and those who earn relatively modest 
amounts and are, therefore, not easily distinguishable from 
those who earn other types of personal service income.
    Tax may be imposed under paragraph 1 even if the performer 
would have been exempt from tax under Article 7 or 14. On the 
other hand, if the performer would be exempt from host-country 
tax under Article 16, but would be taxable under either Article 
7 or 14, tax may be imposed under either of those Articles. 
Thus, for example, if a performer derives remuneration from his 
activities in an independent capacity, and the performer does 
not have a permanent establishment in the host State, he may be 
taxed by the host State in accordance with Article 16 if his 
remuneration exceeds $20,000 annually, despite the fact that he 
generally would be exempt from host State taxation under 
Article 7. However, a performer who receives less than the 
$20,000 threshold amount and therefore is not taxable under 
Article 16 nevertheless may be subject to tax in the host 
country under Article 7 or 14 if the tests for host-country 
taxability under the relevant Article are met. For example, if 
an entertainer who is an independent contractor earns $14,000 
of income in a State for the calendar year, but the income is 
attributable to his permanent establishment in the State of 
performance, that State may tax his income under Article 7.
    Since it frequently is not possible to know until year-end 
whether the income an entertainer or sportsman derived from 
performances in a Contracting State will exceed $20,000, 
nothing in the Convention precludes that Contracting State from 
withholding tax during the year and refunding it after the 
close of the year if the taxability threshold has not been met.
    As explained in paragraph 9 of the Commentary to Article 17 
of the OECD Model, Article 16 of the Convention applies to all 
income connected with a performance by the entertainer, such as 
appearance fees, award or prize money, and a share of the gate 
receipts. Income derived from a Contracting State by a 
performer who is a resident of the other Contracting State from 
other than actual performance, such as royalties from record 
sales and payments for product endorsements, is not covered by 
this Article, but by other articles of the Convention, such as 
Article 12 (Royalties) or Article 7. For example, if an 
entertainer receives royalty income from the sale of live 
recordings, the royalty income would be subject to the 
provisions of Article 12, even if the performance was conducted 
in the source country, although the entertainer could be taxed 
in the source country with respect to income from the 
performance itself under Article 16 if the dollar threshold is 
exceeded.
    In determining whether income falls under Article 16 or 
another article, the controlling factor will be whether the 
income in question is predominantly attributable to the 
performance itself or to other activities or property rights. 
For instance, a fee paid to a performer for endorsement of a 
performance in which the performer will participate would be 
considered to be so closely associated with the performance 
itself that it normally would fall within Article 16. 
Similarly, a sponsorship fee paid by a business in return for 
the right to attach its name to the performance would be so 
closely associated with the performance that it would fall 
under Article 16 as well. As indicated in paragraph 9 of the 
Commentary to Article 17 of the OECD Model, however, a 
cancellation fee would not be considered to fall within Article 
16 but would be dealt with under Article 7 or 14.
    As indicated in paragraph 4 of the Commentary to Article 17 
of the OECD Model, where an individual fulfills a dual role as 
performer and non-performer (such as a player-coach or an 
actor-director), but his role in one of the two capacities is 
negligible, the predominant character of the individual's 
activities should control the characterization of those 
activities. In other cases there should be an apportionment 
between the performance-related compensation and other 
compensation.
    Consistent with Article 14, Article 16 also applies 
regardless of the timing of actual payment for services. Thus, 
a bonus paid to a resident of a Contracting State with respect 
to a performance in the other Contracting State during a 
particular taxable year would be subject to Article 16 for that 
year even if it was paid after the close of the year. The 
determination as to whether the $20,000 threshold has been 
exceeded is determined separately with respect to each year of 
payment. Accordingly, if an actor who is a resident of one 
Contracting State receives residual payments over time with 
respect to a movie that was filmed in the other Contracting 
State, the payments do not have to be aggregated from one year 
to another to determine whether the total payments have finally 
exceeded $20,000. Otherwise, residual payments received many 
years later could retroactively subject all earlier payments to 
tax by the other Contracting State.
Paragraph 2
    Paragraph 2 is intended to address the potential for 
circumvention of the rule in paragraph 1 when a performer's 
income does not accrue directly to the performer himself, but 
to another person. Foreign performers frequently perform in the 
United States as employees of, or under contract with, a 
company or other person.
    The relationship may truly be one of employee and employer, 
with no circumvention of paragraph 1 either intended or 
realized. On the other hand, the ``employer'' may, for example, 
be a company established and owned by the performer, which is 
merely acting as the nominal income recipient in respect of the 
remuneration for the performance (a ``star company''). The 
performer may act as an ``employee,'' receive a modest salary, 
and arrange to receive the remainder of the income from his 
performance from the company in another form or at a later 
time. In such case, absent the provisions of paragraph 2, the 
income arguably could escape host-country tax because the 
company earns business profits but has no permanent 
establishment in that country. The performer may largely or 
entirely escape host-country tax by receiving only a small 
salary, perhaps small enough to place him below the dollar 
threshold in paragraph 1. The performer might arrange to 
receive further payments in a later year, when he is not 
subject to host-country tax, perhaps as dividends or 
liquidating distributions.
    Paragraph 2 seeks to prevent this type of abuse while at 
the same time protecting the taxpayers' rights to the benefits 
of the Convention when there is a legitimate employee-employer 
relationship between the performer and the person providing his 
services. Under paragraph 2, when the income accrues to a 
person other than the performer, the income may be taxed in the 
Contracting State where the performer's services are exercised, 
without regard to the provisions of the Convention concerning 
business profits (Article 7) or income from employment (Article 
14), unless the contract pursuant to which the personal 
activities are performed allows the person other than the 
performer to designate the individual who is to perform the 
personal activities. This rule is based on the U.S. domestic 
law provision characterizing income from certain personal 
service contracts as foreign personal holding company income in 
the context of the foreign personal holding company provisions. 
See Code section 954(c)(1)(H). The premise of this rule is 
that, in a case where a performer is using another person in an 
attempt to circumvent the provisions of paragraph 1, the 
recipient of the services of the performer would contract with 
a person other than that performer (i.e., a company employing 
the performer) only if the recipient of the services were 
certain that the performer himself would perform the services. 
If instead the person is allowed to designate the individual 
who is to perform the services, then likely the person is a 
service company not formed to circumvent the provisions of 
paragraph 1. The following example illustrates the operation of 
this rule:
    Example. Company M, a resident of Malta, is engaged in the 
business of operating an orchestra. Company M enters into a 
contract with Company A pursuant to which Company M agrees to 
carry out two performances in the United States in 
consideration of which Company A will pay Company M $200,000. 
The contract designates two individuals, a conductor and a 
flautist, that must perform as part of the orchestra, and 
allows Company M to designate the other members of the 
orchestra. Because the contract does not give Company M any 
discretion to determine whether the conductor or the flautist 
perform personal services under the contract, the portion of 
the $200,000 which is attributable to the personal services of 
the conductor and the flautist may be taxed by the United 
States pursuant to paragraph 2. The remaining portion of the 
$200,000, which is attributable to the personal services of 
performers that Company M may designate, is not subject to tax 
by the United States pursuant to paragraph 2.
    In cases where paragraph 2 is applicable, the income of the 
``employer'' may be subject to tax in the host Contracting 
State even if it has no permanent establishment in the host 
country. Taxation under paragraph 2 is on the person providing 
the services of the performer. This paragraph does not affect 
the rules of paragraph 1, which apply to the performer himself. 
The income taxable by virtue of paragraph 2 is reduced to the 
extent of salary payments to the performer, which fall under 
paragraph 1.
    For purposes of paragraph 2, income is deemed to accrue to 
another person (i.e., the person providing the services of the 
performer) if that other person has control over, or the right 
to receive, gross income in respect of the services of the 
performer.
    Pursuant to Article 1 (General Scope) the Convention only 
applies to persons who are residents of one of the Contracting 
States. Thus, income of a star company that is not a resident 
of one of the Contracting States would not be eligible for 
benefits of the Convention.
Relationship to Other Articles
    This Article is subject to the provisions of the saving 
clause of paragraph 4 of Article 1 (General Scope). Thus, if an 
entertainer or a sportsman who is resident in Malta is a 
citizen of the United States, the United States may tax all of 
his income from performances in the United States without 
regard to the provisions of this Article (subject to the 
special foreign tax credit provisions of paragraph 4 of Article 
23 (Relief from Double Taxation)). In addition, benefits of 
this Article are subject to the provisions of Article 22 
(Limitation on Benefits).

 ARTICLE 17 (PENSIONS, SOCIAL SECURITY, ANNUITIES, ALIMONY, AND CHILD 
                                SUPPORT)

    This Article deals with the taxation of private (i.e., non-
government service) pensions and annuities, social security 
benefits, alimony and child support payments.
Paragraph 1
    Paragraph 1 provides that distributions from pensions and 
other similar remuneration beneficially owned by a resident of 
a Contracting State in consideration of past employment are 
taxable only in the State of residence of the beneficiary. The 
term ``pensions and other similar remuneration'' includes both 
periodic and single sum payments.
    The phrase ``pensions and other similar remuneration'' is 
intended to encompass payments made by qualified private 
retirement plans. In the United States, the plans encompassed 
by Paragraph 1 include: qualified plans under section 401(a), 
individual retirement plans (including individual retirement 
plans that are part of a simplified employee pension plan that 
satisfies section 408(k), individual retirement accounts and 
section 408(p) accounts), section 403(a) qualified annuity 
plans, and section 403(b) plans. Distributions from section 457 
plans may also fall under Paragraph 1 if they are not paid with 
respect to government services covered by Article 19. The 
competent authorities may agree that distributions from other 
plans that generally meet similar criteria to those applicable 
to the listed plans also qualify for the benefits of Paragraph 
1.
    Pensions in respect of government services covered by 
Article 19 are not covered by this paragraph. They are covered 
either by paragraph 2 of this Article, if they are in the form 
of social security benefits, or by paragraph 2 of Article 19 
(Government Service). Thus, Article 19 generally covers section 
457(g), 401(a), 403(a), and 403(b) plans established for 
government employees, including the Thrift Savings Plan 
(section 7701(j)).
    Subparagraph (b) contains an exception to the State of 
residence's right to tax pensions and other similar 
remuneration under subparagraph (a). Under subparagraph (b), 
the State of residence must exempt from tax any amount of such 
pensions or other similar remuneration that would be exempt 
from tax in the Contracting State in which the pension fund is 
established if the recipient were a resident of that State. 
Thus, for example, a distribution from a U.S. ``Roth IRA'' to a 
resident of Malta would be exempt from tax in Malta to the same 
extent the distribution would be exempt from tax in the United 
States if it were distributed to a U.S. resident. The same is 
true with respect to distributions from a traditional IRA to 
the extent that the distribution represents a return of non-
deductible contributions. Similarly, if the distribution were 
not subject to tax when it was ``rolled over'' into another 
U.S. IRA (but not, for example, to a pension fund in the other 
Contracting State), then the distribution would be exempt from 
tax in Malta.
Paragraph 2
    The treatment of social security benefits is dealt with in 
paragraph 2. This paragraph provides that, notwithstanding the 
provision of paragraph 1 under which private pensions are 
taxable exclusively in the State of residence of the beneficial 
owner, payments made by one of the Contracting States under the 
provisions of its social security or similar legislation to a 
resident of the other Contracting State or to a citizen of the 
United States will be taxable only in the Contracting State 
making the payment. The reference to U.S. citizens is necessary 
to ensure that a social security payment by Malta to a U.S. 
citizen who is not resident in the United States will not be 
taxable by the United States.
    This paragraph applies to social security beneficiaries 
whether they have contributed to the system as private sector 
or Government employees. The phrase ``similar legislation'' is 
intended to refer to United States tier 1 Railroad Retirement 
benefits.
Paragraph 3
    Under paragraph 3, annuities that are derived and 
beneficially owned by a resident of a Contracting State are 
taxable only in that State. An annuity, as the term is used in 
this paragraph, means a stated sum paid periodically at stated 
times during a specified number of years or for life, under an 
obligation to make the payment in return for adequate and full 
consideration (other than for services rendered). An annuity 
received in consideration for services rendered would be 
treated as either deferred compensation that is taxable in 
accordance with Article 14 (Income from Employment) or a 
pension that is subject to the rules of paragraph 1.
Paragraphs 4 and 5
    Paragraphs 4 and 5 deal with alimony and child support 
payments. Both alimony, under paragraph 4, and child support 
payments, under paragraph 5, are defined as periodic payments 
made pursuant to a written separation agreement or a decree of 
divorce, separate maintenance, or compulsory support. Paragraph 
4, however, deals only with payments of that type that are 
taxable to the payee. Under that paragraph, alimony paid by a 
resident of a Contracting State to a resident of the other 
Contracting State is taxable under the Convention only in the 
State of residence of the recipient. Paragraph 5 deals with 
those periodic payments that are for the support of a child and 
that are not covered by paragraph 4. These types of payments by 
a resident of a Contracting State to a resident of the other 
Contracting State are taxable in neither Contracting State.
Relationship to Other Articles
    Paragraphs 1 (a), 3 and 4 of Article 17 are subject to the 
saving clause of paragraph 4 of Article 1 (General Scope). 
Thus, a U.S. citizen who is resident in Malta and receives 
either a pension, annuity or alimony payment from the United 
States, may be subject to U.S. tax on the payment, 
notwithstanding the rules in those three paragraphs that give 
the State of residence of the recipient the exclusive taxing 
right. Paragraphs 1(b), 2 and 5 are excepted from the saving 
clause by virtue of subparagraph 5(a) of Article 1. Thus, the 
United States will not tax U.S. citizens and residents on the 
income described in those paragraphs even if such amounts 
otherwise would be subject to tax under U.S. law.

                       ARTICLE 18 (PENSION FUNDS)

    This Article provides that, if a resident of a Contracting 
State participates in a pension fund established in the other 
Contracting State, the State of residence will not tax the 
income of the pension fund with respect to that resident until 
a distribution is made from the pension fund. Thus, for 
example, if a U.S. citizen contributes to a U.S. qualified plan 
while working in the United States and then establishes 
residence in Malta, this Article prevents Malta from taxing 
currently the plan's earnings and accretions with respect to 
that individual. When the resident receives a distribution from 
the pension fund, that distribution may be subject to tax in 
Malta, subject to paragraph 1 of Article 17 (Pensions, Social 
Security, Annuities, Alimony, and Child Support).
Relationship to other Articles
    Article 18 is excepted from the saving clause of paragraph 
4 of Article 1 by virtue of paragraph 5(a) of Article 1. Thus, 
the United States will allow U.S. citizens and residents the 
benefits of Article 18.

                    ARTICLE 19 (GOVERNMENT SERVICE)

Paragraph 1
    Subparagraphs (a) and (b) of paragraph 1 deal with the 
taxation of government compensation (other than a pension 
addressed in paragraph 2). Subparagraph (a) provides that 
remuneration paid to any individual who is rendering services 
to a Contracting State, political subdivision or local 
authority is exempt from tax by the other State. Under 
subparagraph (b), such payments are, however, taxable 
exclusively in the other State (i.e., the host State) if the 
services are rendered in that other State and the individual is 
a resident of that State who is either a national of that State 
or a person who did not become resident of that State solely 
for purposes of rendering the services. The paragraph applies 
to anyone performing services for a government, whether as a 
government employee, an independent contractor, or an employee 
of an independent contractor.
Paragraph 2
    Paragraph 2 deals with the taxation of pensions paid by, or 
out of funds created by, one of the States, or a political 
subdivision or a local authority thereof, to an individual in 
respect of services rendered to that State or subdivision or 
authority. Subparagraph (a) provides that such pensions are 
taxable only in that State. Subparagraph (b) provides an 
exception under which such pensions are taxable only in the 
other State if the individual is a resident of, and a national 
of, that other State.
    Pensions paid to retired civilian and military employees of 
a Government of either State are intended to be covered under 
paragraph 2. When benefits paid by a State in respect of 
services rendered to that State or a subdivision or authority 
are in the form of social security benefits, however, those 
payments are covered by paragraph 2 of Article 17 (Pensions, 
Social Security, Annuities, Alimony, and Child Support). As a 
general matter, the result will be the same whether Article 17 
or 19 applies, since social security benefits are taxable 
exclusively by the source country and so are government 
pensions. The result will differ only when the payment is made 
to a citizen and resident of the other Contracting State, who 
is not also a citizen of the paying State. In such a case, 
social security benefits continue to be taxable at source while 
government pensions become taxable only in the residence 
country.
Paragraph 3
    Paragraph 3 provides that the remuneration described in 
paragraph 1 will be subject to the rules of Articles 14 (Income 
from Employment), 15 (Directors' Fees), 16 (Entertainers and 
Sportsmen) or 17 (Pensions, Social Security, Annuities, 
Alimony, and Child Support) if the recipient of the income is 
employed by a business conducted by a government.
Relationship to Other Articles
    Under subparagraph 5(b) of Article 1 (General Scope), the 
saving clause of paragraph 4 of Article 1 does not apply to the 
benefits conferred by one of the States under Article 19 if the 
recipient of the benefits is neither a citizen of that State, 
nor a person who has been admitted for permanent residence 
there (i.e., in the United States, a ``green card'' holder). 
Thus, a resident of the United States who in the course of 
performing functions of a governmental nature becomes a 
resident of Malta (but not a permanent resident), would be 
entitled to the benefits of this Article. Similarly, an 
individual who receives a pension paid by the Government of 
Malta in respect of services rendered to the Government of 
Malta shall be taxable on this pension only in Malta unless the 
individual is a U.S. citizen or acquires a U.S. green card.

                   ARTICLE 20 (STUDENTS AND TRAINEES)

    This Article provides rules for host-country taxation of 
visiting students and business trainees. Persons who meet the 
tests of the Article will be exempt from tax in the State that 
they are visiting with respect to designated classes of income. 
Several conditions must be satisfied in order for an individual 
to be entitled to the benefits of this Article.
    First, the visitor must have been, either at the time of 
his arrival in the host State or immediately before, a resident 
of the other Contracting State.
    Second, the purpose of the visit must be the full-time 
education or training of the visitor. Thus, if the visitor 
comes principally to work in the host State but also is a part-
time student, he would not be entitled to the benefits of this 
Article, even with respect to any payments he may receive from 
abroad for his maintenance or education, and regardless of 
whether or not he is in a degree program. Whether a student is 
to be considered full-time will be determined by the rules of 
the educational institution at which he is studying.
    The host-country exemption applies to payments received by 
the student or business trainee for the purpose of his 
maintenance, education or training that arise outside the host 
State. A payment will be considered to arise outside the host 
State if the payer is located outside the host State. Thus, if 
an employer from one of the Contracting States sends an 
employee to the other Contracting State for full-time training, 
the payments the trainee receives from abroad from his employer 
for his maintenance or training while he is present in the host 
State will be exempt from tax in the host State. Where 
appropriate, substance prevails over form in determining the 
identity of the payer. Thus, for example, payments made 
directly or indirectly by a U.S. person with whom the visitor 
is training, but which have been routed through a source 
outside the United States (e.g., a foreign subsidiary), are not 
treated as arising outside the United States for this purpose.
    The Article also provides a limited exemption for 
remuneration from personal services rendered in the host State 
with a view to supplementing the resources available to him for 
such purposes to the extent of $9,000 United States dollars (or 
its equivalent in Euros) per taxable year. The specified amount 
is intended to equalize the position of a U.S. resident who is 
entitled to the standard deduction and the personal exemption 
with that of a student who files as a nonresident alien and 
therefore is not. Accordingly, the competent authorities are 
instructed to adjust this amount every five years, if 
necessary, to take into account changes in the amount of the 
U.S. standard deduction and personal exemption and in the 
Maltese personal tax rates.
    In the case of a business trainee, the benefits of the 
Article will extend only for a period of one year from the time 
that the visitor first arrives in the host country. If, 
however, a trainee remains in the host country for a second 
year, thus losing the benefits of the Article, he would not 
retroactively lose the benefits of the Article for the first 
year. The term ``business trainee'' is defined as a person who 
is in the country temporarily for the purpose of securing 
training that is necessary to qualify to pursue a profession or 
professional specialty. Moreover, the person must be employed 
or under contract with a resident of the other Contracting 
State and must be receiving the training from someone who is 
not related to its employer. Thus, a business trainee might 
include a lawyer employed by a law firm in one Contracting 
State who works for one year as a stagiaire in an unrelated law 
firm in the other Contracting State. However, the term would 
not include a manager who normally is employed by a parent 
company in one Contracting State who is sent to the other 
Contracting State to run a factory owned by a subsidiary of the 
parent company.
Relationship to Other Articles
    The saving clause of paragraph 4 of Article 1 (General 
Scope) does not apply to this Article with respect to an 
individual who is neither a citizen of the host State nor has 
been admitted for permanent residence there. The saving clause, 
however, does apply with respect to citizens and permanent 
residents of the host State. Thus, a U.S. citizen who is a 
resident of Malta and who visits the United States as a full-
time student at an accredited university will not be exempt 
from U.S. tax on remittances from abroad that otherwise 
constitute U.S. taxable income. A person, however, who is not a 
U.S. citizen, and who visits the United States as a student and 
remains long enough to become a resident under U.S. law, but 
does not become a permanent resident (i.e., does not acquire a 
green card), will be entitled to the full benefits of the 
Article.

                       ARTICLE 21 (OTHER INCOME)

    Article 21 assigns taxing jurisdiction over income not 
dealt with in the other articles (Articles 6 through 20) of the 
Convention. In order for an item of income to be ``dealt with'' 
in another article it must be the type of income described in 
the article and, in most cases, it must have its source in a 
Contracting State. For example, all royalty income that arises 
in a Contracting State and that is beneficially owned by a 
resident of the other Contracting State is ``dealt with'' in 
Article 12 (Royalties). However, profits derived in the conduct 
of a business are ``dealt with'' in Article 7 (Business 
Profits) whether or not they have their source in one of the 
Contracting States.
    Examples of items of income covered by Article 21 include 
income from gambling, punitive (but not compensatory) damages 
and covenants not to compete. The article would also apply to 
income from a variety of financial transactions, where such 
income does not arise in the course of the conduct of a trade 
or business. For example, income from notional principal 
contracts and other derivatives would fall within Article 21 if 
derived by persons not engaged in the trade or business of 
dealing in such instruments, unless such instruments were being 
used to hedge risks arising in a trade or business. It would 
also apply to securities lending fees derived by an 
institutional investor. Further, in most cases guarantee fees 
paid within an intercompany group would be covered by Article 
21, unless the guarantor were engaged in the business of 
providing such guarantees to unrelated parties.
    Article 21 also applies to items of income that are not 
dealt with in the other articles because of their source or 
some other characteristic. For example, Article 11 (Interest) 
addresses only the taxation of interest arising in a 
Contracting State. Interest arising in a third State that is 
not attributable to a permanent establishment, therefore, is 
subject to Article 21.
    Distributions from partnerships are not generally dealt 
with under Article 21 because partnership distributions 
generally do not constitute income. Under the Code, partners 
include in income their distributive share of partnership 
income annually, and partnership distributions themselves 
generally do not give rise to income. This would also be the 
case under U.S. law with respect to distributions from trusts. 
Trust income and distributions that, under the Code, have the 
character of the associated distributable net income would 
generally be covered by another article of the Convention. See 
Code section 641 et seq.
Paragraph 1
    The general rule of Article 21 is contained in paragraph 1. 
Items of income not dealt with in other articles and 
beneficially owned by a resident of a Contracting State will be 
taxable in the State of residence. This right of taxation 
applies whether or not the residence State exercises its right 
to tax the income covered by the Article. As discussed in 
greater detail below, however, where such income arises in the 
other Contracting State, paragraph 3 permits limited source-
State taxation.
    The reference in this paragraph to ``items of income 
beneficially owned by a resident of a Contracting State'' 
rather than simply ``items of income of a resident of a 
Contracting State,'' as in the OECD Model, is intended merely 
to make explicit the implicit understanding that the limits on 
source-State taxation provided by paragraphs 1 and 3 apply only 
when a resident of a Contracting State is the beneficial owner 
of the income. Thus, source taxation of income not dealt with 
in other articles of the Convention is not limited by 
paragraphs 1 and 3 if it is nominally paid to a resident of the 
other Contracting State, but is beneficially owned by a 
resident of a third State. However, income received by a 
nominee on behalf of a resident of that other State would be 
entitled to benefits.
    The term ``beneficially owned'' is not defined in the 
Convention, and is, therefore, defined as under the internal 
law of the State granting treaty benefits (i.e., the source 
State). The person who beneficially owns the income for 
purposes of Article 21 is the person to which the income is 
attributable for tax purposes under the laws of the source 
State.
Paragraph 2
    This paragraph provides an exception to the general rule of 
paragraph 1 for income that is attributable to a permanent 
establishment maintained in a Contracting State by a resident 
of the other Contracting State. The taxation of such income is 
governed by the provisions of Article 7 (Business Profits). 
Therefore, income arising outside the United States that is 
attributable to a permanent establishment maintained in the 
United States by a resident of Malta generally would be taxable 
by the United States under the provisions of Article 7. This 
would be true even if the income is sourced in a third State.
Paragraph 3
    This paragraph provides for limited source-State taxation 
of income not dealt with in the foregoing Articles of the 
Convention. Such income of a resident of one of the Contracting 
States from sources in the other State may be taxed in the 
source State, but the rate may not exceed 10 percent of the 
amount of such items.
Relationship to Other Articles
    This Article is subject to the saving clause of paragraph 4 
of Article 1 (General Scope). Thus, the United States may tax 
the income of a resident of the other Contracting State that is 
not dealt with elsewhere in the Convention, if that resident is 
a citizen of the United States. The Article is also subject to 
the provisions of Article 22 (Limitation on Benefits). Thus, if 
a resident of the other Contracting State earns income that 
falls within the scope of paragraph 1 of Article 21, but that 
is taxable by the United States under U.S. law, the income 
would be exempt from U.S. tax under the provisions of Article 
21 only if the resident satisfies one of the tests of Article 
22 for entitlement to benefits.

                  ARTICLE 22 (LIMITATION ON BENEFITS)

    Article 22 contains anti-treaty-shopping provisions that 
are intended to prevent residents of third countries from 
benefiting from what is intended to be a reciprocal agreement 
between two countries. In general, the provision does not rely 
on a determination of purpose or intention but instead sets 
forth a series of objective tests. A resident of a Contracting 
State that satisfies one of the tests will receive benefits 
regardless of its motivations in choosing its particular 
business structure. However, the Exchange of Notes accompanying 
the Convention provides that a company resident in Malta that 
is an ``international trading company,'' as defined in article 
2 of the Income Tax Act of Malta, shall be entitled to receive 
only the benefits of the Convention (subject to all applicable 
conditions or limitations) other than the benefits of Articles 
10 (Dividends), 11 (Interest), 12 (Royalties), and 21 (Other 
Income) of the Convention.
    The structure of the Article is as follows: Paragraph 1 
states the general rule that residents are entitled to benefits 
otherwise accorded to residents only to the extent provided in 
the Article. Paragraph 2 lists a series of attributes of a 
resident of a Contracting State, the presence of any one of 
which will entitle that person to all the benefits of the 
Convention. Paragraph 3 provides a so-called ``derivative 
benefits'' test under which certain categories of income may 
qualify for benefits. Paragraph 4 provides that, regardless of 
whether a person qualifies for benefits under paragraph 2, 
benefits may be granted to that person with regard to certain 
income earned in the conduct of an active trade or business. 
Paragraph 5 provides special rules for so-called ``triangular 
cases,'' notwithstanding the other provisions of the Article. 
Paragraph 6 provides that benefits also may be granted if the 
competent authority of the State from which benefits are 
claimed determines that it is appropriate to provide benefits 
in that case. Paragraph 7 addresses the application of the 
Convention where a remittance system of taxation is used. 
Paragraph 8 defines certain terms used in the Article.
Paragraph 1
    Paragraph 1 provides that, except as otherwise provided, a 
resident of a Contracting State will be entitled to all the 
benefits otherwise accorded to residents of a Contracting State 
under the Convention only to the extent provided in the 
Article.
    The benefits otherwise accorded to residents under the 
Convention include all limitations on source-based taxation 
under Articles 6 through 21, the treaty-based relief from 
double taxation provided by Article 23 (Relief from Double 
Taxation), and the protection afforded to residents of a 
Contracting State under Article 24 (Non-Discrimination). Some 
provisions do not require that a person be a resident in order 
to enjoy the benefits of those provisions. Article 25 (Mutual 
Agreement Procedure) is not limited to residents of the 
Contracting States, and Article 27 (Members of Diplomatic 
Missions and Consular Posts) applies to diplomatic agents or 
consular officials regardless of residence. Article 22 
accordingly does not limit the availability of treaty benefits 
under these provisions.
    Article 22 and the anti-abuse provisions of domestic law 
complement each other, as Article 22 effectively determines 
whether an entity has a sufficient nexus to the Contracting 
State to be treated as a resident for treaty purposes, while 
domestic anti-abuse provisions (e.g., business purpose, 
substance-over-form, step transaction or conduit principles) 
determine whether a particular transaction should be recast in 
accordance with its substance. Thus, internal law principles of 
the source Contracting State may be applied to identify the 
beneficial owner of an item of income, and Article 22 then will 
be applied to the beneficial owner to determine if that person 
is entitled to the benefits of the Convention with respect to 
such income.
Paragraph 2
    Paragraph 2 has six subparagraphs, each of which describes 
a category of residents that are entitled to all benefits of 
the Convention.
    It is intended that the provisions of paragraph 2 will be 
self-executing. Unlike the provisions of paragraph 6, discussed 
below, claiming benefits under paragraph 2 does not require 
advance competent authority ruling or approval. The tax 
authorities may, of course, on review, determine that the 
taxpayer has improperly interpreted the paragraph and is not 
entitled to the benefits claimed.
            Individuals--Subparagraph 2(a)
    Subparagraph 2(a) provides that individual residents of a 
Contracting State will be entitled to all treaty benefits. If 
such an individual receives income as a nominee on behalf of a 
third country resident, benefits may be denied under the 
respective articles of the Convention by the requirement that 
the beneficial owner of the income be a resident of a 
Contracting State.
            Governments--Subparagraph 2(b)
    Subparagraph 2(b) provides that the Contracting States and 
any political subdivision or local authority thereof will be 
entitled to all benefits of the Convention.
            Publicly-Traded Corporations--Subparagraph 2(c)(i)
    Subparagraph 2(c) applies to two categories of companies: 
publicly traded companies and subsidiaries of publicly traded 
companies. A company resident in a Contracting State is 
entitled to all the benefits of the Convention under 
subparagraph 2(c)(i) if (a) the principal class of its shares, 
and any disproportionate class of shares, is listed on a 
recognized stock exchange located in the company's State of 
residence, (b) the principal class of its shares, and any 
disproportionate class of shares, regularly traded on one or 
more recognized stock exchanges in the company's State of 
residence, (c) the principal class of its shares is primarily 
traded on one or more recognized stock exchanges located in 
company's State of residence, and (d) and the company satisfies 
the base erosion test of subparagraph 2(f)(ii).
    The term ``recognized stock exchange'' is defined in 
subparagraph (a) of paragraph 8. It includes (i) the NASDAQ 
System and any stock exchange registered with the Securities 
and Exchange Commission as a national securities exchange for 
purposes of the Securities Exchange Act of 1934, (ii) the Malta 
Stock Exchange, and (iii) any other stock exchange agreed upon 
by the competent authorities of the Contracting States.
    If a company has only one class of shares, it is only 
necessary to consider whether the shares of that class meet the 
relevant trading requirements. If the company has more than one 
class of shares, it is necessary as an initial matter to 
determine which class or classes constitute the ``principal 
class of shares.'' The term ``principal class of shares'' is 
defined in subparagraph 8(b) to mean the ordinary or common 
shares of the company representing the majority of the 
aggregate voting power and value of the company. If the company 
does not have a class of ordinary or common shares representing 
the majority of the aggregate voting power and value of the 
company, then the ``principal class of shares'' is that class 
or any combination of classes of shares that represents, in the 
aggregate, a majority of the voting power and value of the 
company. Although in a particular case involving a company with 
several classes of shares it is conceivable that more than one 
group of classes could be identified that account for more than 
50% of the shares, it is only necessary for one such group to 
satisfy the requirements of this subparagraph in order for the 
company to be entitled to benefits. Benefits would not be 
denied to the company even if a second, non-qualifying, group 
of shares with more than half of the company's voting power and 
value could be identified.
    A company whose principal class of shares is regularly 
traded on a recognized stock exchange will nevertheless not 
qualify for benefits under subparagraph 2(c)(i) if it has a 
disproportionate class of shares that is not regularly traded 
on a recognized stock exchange. The term ``disproportionate 
class of shares'' is defined in subparagraph 8(c). A company 
has a disproportionate class of shares if it has outstanding a 
class of shares which is subject to terms or other arrangements 
that entitle the holder to a larger portion of the company's 
income, profit, or gain in the other Contracting State than 
that to which the holder would be entitled in the absence of 
such terms or arrangements. Thus, for example, a company 
resident in Malta meets the test of subparagraph 8(c) if it has 
outstanding a class of ``tracking stock'' that pays dividends 
based upon a formula that approximates the company's return on 
its assets employed in the United States.
    The following example illustrates this result.
    Example. MCo is a corporation resident in Malta. MCo has 
two classes of shares: Common and Preferred. The Common shares 
are listed and regularly traded on the Malta Stock Exchange. 
The Preferred shares have no voting rights and are entitled to 
receive dividends equal in amount to interest payments that MCo 
receives from unrelated borrowers in the United States. The 
Preferred shares are owned entirely by a single investor that 
is a resident of a country with which the United States does 
not have a tax treaty. The Common shares account for more than 
50 percent of the value of MCo and for 100 percent of the 
voting power. Because the owner of the Preferred shares is 
entitled to receive payments corresponding to the U.S. source 
interest income earned by MCo, the Preferred shares are a 
disproportionate class of shares. Because the Preferred shares 
are not regularly traded on a recognized stock exchange, MCo 
will not qualify for benefits under subparagraph 2(c)(i).
    The term ``regularly traded'' is not defined in the 
Convention. In accordance with paragraph 2 of Article 3 
(General Definitions), this term will be defined by reference 
to the domestic tax laws of the State from which treaty 
benefits are sought. In the case of the United States, this 
term is understood to have the meaning it has under Treas. Reg. 
section 1.884-5(d)(4)(i)(B), relating to the branch tax 
provisions of the Code. Under these regulations, a class of 
shares is considered to be ``regularly traded'' if two 
requirements are met: trades in the class of shares are made in 
more than de minimis quantities on at least 60 days during the 
taxable year, and the aggregate number of shares in the class 
traded during the year is at least 10 percent of the average 
number of shares outstanding during the year. Sections 1.884-
5(d)(4)(i)(A), (ii) and (iii) will not be taken into account 
for purposes of defining the term ``regularly traded'' under 
the Convention.
    The regular trading requirement can be met by trading on 
any recognized exchange or exchanges located in either State. 
Trading on one or more recognized stock exchanges may be 
aggregated for purposes of this requirement. Thus, a U.S. 
company could satisfy the regularly traded requirement through 
trading, in whole or in part, on a recognized stock exchange 
located in Malta. Authorized but unissued shares are not 
considered for purposes of this test.
    The term ``primarily traded'' is not defined in the 
Convention. In accordance with paragraph 2 of Article 3, this 
term will have the meaning it has under the laws of the State 
concerning the taxes to which the Convention applies, generally 
the source State. In the case of the United States, this term 
is understood to have the meaning it has under Treas. Reg. 
section 1.884-5(d)(3), relating to the branch tax provisions of 
the Code. Accordingly, stock of a corporation is ``primarily 
traded'' if the number of shares in the company's principal 
class of shares that are traded during the taxable year on all 
recognized stock exchanges in the Contracting State of which 
the company is a resident exceeds the number of shares in the 
company's principal class of shares that are traded during that 
year on established securities markets in any other single 
foreign country.
            Subsidiaries of Publicly-Traded Corporations--Subparagraph 
                    2(c)(ii)
    A company resident in a Contracting State is entitled to 
all the benefits of the Convention under subparagraph 2(c)(ii) 
if five or fewer publicly traded companies described in 
subparagraph 2(c)(i) are the direct or indirect owners of at 
least 75 percent of each class of the company's shares, and the 
company satisfies the base erosion test of subparagraph 
2(f)(ii). If the publicly-traded companies are indirect owners, 
however, each of the intermediate companies must be a resident 
of the same Contracting State that is also entitled to benefits 
of the Convention under subparagraph 2(c)(ii).
    Thus, for example, a company that is a resident of Malta, 
all the shares of which are owned by another company that is a 
resident of Malta, would qualify for benefits under 
subparagraph 2(c) if the principal class of shares (and any 
disproportionate classes of shares) of the parent company are 
regularly and primarily traded on the Malta Stock Exchange, and 
it satisfies the base erosion test of subparagraph 2(f)(ii). 
However, such a subsidiary would not qualify for benefits under 
clause (ii) if the publicly traded parent company were a 
resident of a third state. Furthermore, if a parent company in 
Malta indirectly owned the bottom-tier company through a chain 
of subsidiaries, each such subsidiary in the chain, as an 
intermediate owner, must be a resident of Malta entitled to the 
benefits of the convention under subparagraph 2(c)(ii) in order 
for the subsidiary to meet the test in clause (ii).
            Tax Exempt Organizations--Subparagraph 2(d)
    Subparagraph 2(d) provides rules by which the tax exempt 
organizations described in subparagraph 2(b) of Article 4 
(Resident) will be entitled to all the benefits of the 
Convention. Entities qualifying under this rule generally are 
those that are exempt from tax in their State of residence and 
that are organized and operated exclusively to fulfill 
religious, charitable, scientific, artistic, cultural, or 
educational purposes.
            Pension Funds--Subparagraph 2(e)
    A pension fund will qualify for benefits under subparagraph 
2(e) if more than 75 percent of the beneficiaries, members or 
participants of the pension fund are individuals resident in 
either Contracting State. For purposes of this provision, the 
term ``beneficiaries'' should be understood to refer to the 
persons receiving benefits from the organization.
            Ownership/Base Erosion--Subparagraph 2(f)
    Subparagraph 2(f) provides an additional method to qualify 
for treaty benefits that applies to any form of legal entity 
that is a resident of a Contracting State. The test provided in 
subparagraph (e), the so-called ownership and base erosion 
test, is a two-part test. Both prongs of the test must be 
satisfied for the resident to be entitled to treaty benefits 
under subparagraph 2(e).
    The ownership prong of the test, under clause (i), requires 
that 75 percent or more of each class of shares or other 
beneficial interests in the person is owned, directly or 
indirectly, on at least half the days of the person's taxable 
year by persons who are residents of the Contracting State of 
which that person is a resident and that are themselves 
entitled to treaty benefits under subparagraphs 2(a), 2(b), 
2(c)(i), 2(d), or 2(e). In the case of indirect owners, 
however, each of the intermediate owners must be a qualified 
person that is also a resident of that Contracting State.
    Trusts may be entitled to benefits under this provision if 
they are treated as residents under Article 4 (Residence) and 
they otherwise satisfy the requirements of this subparagraph. 
For purposes of this subparagraph, the beneficial interests in 
a trust will be considered to be owned by its beneficiaries in 
proportion to each beneficiary's actuarial interest in the 
trust. The interest of a remainder beneficiary will be equal to 
100 percent less the aggregate percentages held by income 
beneficiaries. A beneficiary's interest in a trust will not be 
considered to be owned by a person entitled to benefits under 
subparagraphs 2(a), 2(b), 2(c)(i), 2(d), or 2(e) if it is not 
possible to determine the beneficiary's actuarial interest. 
Consequently, if it is not possible to determine the actuarial 
interest of the beneficiaries in a trust, the ownership test 
under clause i) cannot be satisfied, unless all possible 
beneficiaries are persons entitled to benefits under 
subparagraphs 2(a), 2(b), 2(c)(i), 2(d), or 2(e).
    The base erosion prong of clause (ii) of subparagraph (f) 
is satisfied with respect to a person if less than 25 percent 
of the person's gross income for the taxable year, as 
determined under the tax law in the person's State of 
residence, is paid or accrued, directly or indirectly, to 
persons who are not residents of either Contracting State 
entitled to benefits under subparagraphs 2(a), 2(b), 2(c)(i), 
2(d), or 2(e), other than in the form of arm's-length payments 
in the ordinary course of business for services or tangible 
property.
Paragraph 3
    Paragraph 3 sets forth a derivative benefits test that is 
potentially applicable to all treaty benefits, although the 
test is applied to individual items of income. In general, a 
derivative benefits test entitles a company that is a resident 
of a Contracting State to treaty benefits if the owner of the 
company would have been entitled to the same benefit had the 
income in question flowed directly to that owner. To qualify 
under this paragraph, the company must meet an ownership test 
and a base erosion test.
    Subparagraph (a) sets forth the ownership test. Under this 
test at least 95 percent of each class of shares of the company 
must be owned, directly or indirectly, by seven or fewer 
persons who are equivalent beneficiaries. The term ``equivalent 
beneficiary'' is defined in subparagraph 8(d). This definition 
may be met in two alternative ways, the first of which has two 
requirements.
    Under the first alternative, a person may be an equivalent 
beneficiary because it is entitled to equivalent benefits under 
a treaty between the country of source and the country in which 
the person is a resident. This alternative has two 
requirements.
    The first requirement is that the person must be a resident 
of a member state of the European Union, or of a European 
Economic Area state, or of Australia, or of a party to the 
North American Free Trade Agreement (collectively, ``qualifying 
States'').
    The second requirement of the definition of ``equivalent 
beneficiary'' is that the person must be entitled to equivalent 
benefits under an applicable treaty. To satisfy the second 
requirement, the person must be entitled to all the benefits of 
a comprehensive treaty between the Contracting State from which 
benefits of the Convention are claimed and a qualifying State 
under provisions that are analogous to the rules in 
subparagraphs 2(a), 2(b), 2(c)(i), 2(d), or 2(e) of this 
Article. If the treaty in question does not have a 
comprehensive limitation on benefits article, this requirement 
is met only if the person would be entitled to treaty benefits 
under the tests in subparagraphs 2(a), 2(b), 2(c)(i), 2(d), or 
2(e) of this Article if the person were a resident of one of 
the Contracting States.
    In order to satisfy the second requirement necessary to 
qualify as an ``equivalent beneficiary'' under subparagraph 
8(d)(i)(B) with respect to dividends, interest, royalties or 
branch tax, the person must be entitled to a rate of tax that 
is at least as low as the tax rate that would apply under the 
Convention to such income. Thus, the rates to be compared are: 
(1) the rate of tax that the source State would have imposed if 
a qualified resident of the other Contracting State was the 
beneficial owner of the income; and (2) the rate of tax that 
the source State would have imposed if the third State resident 
received the income directly from the source State. For 
example, USCo is a wholly owned subsidiary of MCo, a company 
resident in Malta. MCo is wholly owned by ICo, a corporation 
resident in Italy. Assuming MCo satisfied the requirements of 
paragraph 2 of Article 10 (Dividends), MCo would be eligible 
for a dividend withholding tax rate of 5 percent. The dividend 
withholding tax rate in the treaty between the United States 
and Italy is 5 percent. Thus, if ICo received the dividend 
directly from USCo, ICo would be subject to a 5 percent rate of 
withholding tax on the dividend. Because ICo would be entitled 
to a rate of withholding tax that is at least as low as the 
rate that would apply under the Convention to such income, ICo 
is treated as a resident of a member state of the European 
Union or a party to the North American Free Trade Agreement 
with respect to the withholding tax on dividends.
    Subparagraph 8(e) provides a special rule to take account 
of the fact that withholding taxes on many inter-company 
dividends, interest and royalties are exempt within the 
European Union by reason of various EU directives, rather than 
by tax treaty. If a U.S. company receives such payments from a 
Maltese company, and that U.S. company is owned by a company 
resident in a member state of the European Union that would 
have qualified for an exemption from withholding tax if it had 
received the income directly, the parent company will be 
treated as an equivalent beneficiary. This rule is necessary 
because many European Union member countries have not re-
negotiated their tax treaties to reflect the exemptions 
available under the directives.
    The requirement that a person be entitled to ``all the 
benefits'' of a comprehensive tax treaty eliminates those 
persons that qualify for benefits with respect to only certain 
types of income. Accordingly, the fact that a French parent of 
a Maltese company is engaged in the active conduct of a trade 
or business in France and therefore would be entitled to the 
benefits of the U.S.-France treaty if it received dividends 
directly from a U.S. subsidiary of the Maltese company is not 
sufficient for purposes of this paragraph. Further, the French 
company cannot be an equivalent beneficiary if it itself 
qualifies for benefits only with respect to certain income as a 
result of a ``derivative benefits'' provision in the U.S.-
France treaty. However, it would be possible to look through 
the French company to its parent company to determine whether 
the parent company is an equivalent beneficiary.
    The second alternative for satisfying the ``equivalent 
beneficiary'' test is available only to residents of one of the 
two Contracting States. U.S. or Maltese residents who are 
eligible for treaty benefits by reason of subparagraphs 2(a), 
2(b), 2(c)(i), 2(d), or 2(e) are equivalent beneficiaries for 
purposes of the relevant tests in this Article. Thus, a Maltese 
individual will be an equivalent beneficiary without regard to 
whether the individual would have been entitled to receive the 
same benefits if it received the income directly. A resident of 
a third country cannot qualify for treaty benefits under these 
provisions by reason of those paragraphs or any other rule of 
the treaty, and therefore does not qualify as an equivalent 
beneficiary under this alternative. Thus, a resident of a third 
country can be an equivalent beneficiary only if it would have 
been entitled to equivalent benefits had it received the income 
directly.
    The second alternative was included in order to clarify 
that ownership by certain residents of a Contracting State 
would not disqualify a U.S. or Maltese company under this 
paragraph. Thus, for example, if 90 percent of a Maltese 
company is owned by five companies that are resident in member 
states of the European Union who satisfy the requirements of 
subparagraph 8(d)(i), and 10 percent of the Maltese company is 
owned by a U.S. or Maltese individual, then the Maltese company 
still can satisfy the requirements of subparagraph 3(a).
    Subparagraph 3(b) sets forth the base erosion test. A 
company meets this base erosion test if less than 25 percent of 
its gross income (as determined in the company's State of 
residence) for the taxable period is paid or accrued, directly 
or indirectly, to a person or persons who are not equivalent 
beneficiaries. These amounts do not include arm's-length 
payments in the ordinary course of business for services or 
tangible property. This test is the same as the base erosion 
test in subparagraph 2(f)(ii), except that the test in 
paragraph 3(b) focuses on base-eroding payments to persons who 
are not equivalent beneficiaries.
Paragraph 4
    Paragraph 4 sets forth an alternative test under which a 
resident of a Contracting State may receive treaty benefits 
with respect to certain items of income that are connected to 
an active trade or business conducted in its State of 
residence. A resident of a Contracting State may qualify for 
benefits under paragraph 4 whether or not it also qualifies 
under paragraph 2 or 3.
    Subparagraph 4(a) sets forth the general rule that a 
resident of a Contracting State engaged in the active conduct 
of a trade or business in that State may obtain the benefits of 
the Convention with respect to an item of income derived in the 
other Contracting State. The item of income, however, must be 
derived in connection with or incidental to that trade or 
business. In addition, the resident must satisfy the base 
erosion test of clause (ii) of subparagraph 2(f).
    The term ``trade or business'' is not defined in the 
Convention. Pursuant to paragraph 2 of Article 3 (General 
Definitions), when determining whether a resident of Malta is 
entitled to the benefits of the Convention under paragraph 4 of 
this Article with respect to an item of income derived from 
sources within the United States, the United States will 
ascribe to this term the meaning that it has under the law of 
the United States. Accordingly, the U.S. competent authority 
will refer to the regulations issued under section 367(a) for 
the definition of the term ``trade or business.'' In general, 
therefore, a trade or business will be considered to be a 
specific unified group of activities that constitute or could 
constitute an independent economic enterprise carried on for 
profit. Furthermore, a corporation generally will be considered 
to carry on a trade or business only if the officers and 
employees of the corporation conduct substantial managerial and 
operational activities.
    The business of making or managing investments for the 
resident's own account will be considered to be a trade or 
business only when part of banking or insurance activities 
conducted by a bank or an insurance company. Such activities 
conducted by a person other than a bank or insurance company 
will not be considered to be the conduct of an active trade or 
business, nor would they be considered to be the conduct of an 
active trade or business if conducted by a bank or insurance 
company but not as part of the company's banking or insurance 
business. Because a headquarters operation is in the business 
of managing investments, a company that functions solely as a 
headquarters company will not be considered to be engaged in an 
active trade or business for purposes of paragraph 4.
    An item of income is derived in connection with a trade or 
business if the income-producing activity in the State of 
source is a line of business that ``forms a part of or is 
``complementary'' to the trade or business conducted in the 
State of residence by the income recipient.
    A business activity generally will be considered to form 
part of a business activity conducted in the State of source if 
the two activities involve the design, manufacture or sale of 
the same products or type of products, or the provision of 
similar services. The line of business in the State of 
residence may be upstream, downstream, or parallel to the 
activity conducted in the State of source. Thus, the line of 
business may provide inputs for a manufacturing process that 
occurs in the State of source, may sell the output of that 
manufacturing process, or simply may sell the same sorts of 
products that are being sold by the trade or business carried 
on in the State of source.
    Example 1. USCo is a corporation resident in the United 
States. USCo is engaged in an active manufacturing business in 
the United States. USCo owns 100 percent of the shares of MCo, 
a corporation resident in Malta. MCo distributes USCo products 
in Malta. Since the business activities conducted by the two 
corporations involve the same products, MCo's distribution 
business is considered to form a part of USCo's manufacturing 
business.
    Example 2. The facts are the same as in Example 1, except 
that USCo does not manufacture. Rather, USCo operates a large 
research and development facility in the United States that 
licenses intellectual property to affiliates worldwide, 
including MCo. MCo and other USCo affiliates then manufacture 
and market the USCo-designed products in their respective 
markets. Since the activities conducted by MCo and USCo involve 
the same product lines, these activities are considered to form 
a part of the same trade or business.
    For two activities to be considered to be 
``complementary,'' the activities need not relate to the same 
types of products or services, but they should be part of the 
same overall industry and be related in the sense that the 
success or failure of one activity will tend to result in 
success or failure for the other. Where more than one trade or 
business is conducted in the State of source and only one of 
the trades or businesses forms a part of or is complementary to 
a trade or business conducted in the State of residence, it is 
necessary to identify the trade or business to which an item of 
income is attributable. Royalties generally will be considered 
to be derived in connection with the trade or business to which 
the underlying intangible property is attributable. Dividends 
will be deemed to be derived first out of earnings and profits 
of the treaty-benefited trade or business, and then out of 
other earnings and profits. Interest income may be allocated 
under any reasonable method consistently applied. A method that 
conforms to U.S. principles for expense allocation will be 
considered a reasonable method.
    Example 3. Americair is a corporation resident in the 
United States that operates an international airline. MSub is a 
wholly-owned subsidiary of Americair resident in Malta. MSub 
operates a chain of hotels in Malta that are located near 
airports served by Americair flights. Americair frequently 
sells tour packages that include air travel to Malta and 
lodging at MSub hotels. Although both companies are engaged in 
the active conduct of a trade or business, the businesses of 
operating a chain of hotels and operating an airline are 
distinct trades or businesses. Therefore MSub's business does 
not form a part of Americair's business. However, MSub's 
business is considered to be complementary to Americair's 
business because they are part of the same overall industry 
(travel) and the links between their operations tend to make 
them interdependent.
    Example 4. The facts are the same as in Example 3, except 
that MSub owns an office building in Malta instead of a hotel 
chain. No part of Americair's business is conducted through the 
office building. MSub's business is not considered to form a 
part of or to be complementary to Americair's business. They 
are engaged in distinct trades or businesses in separate 
industries, and there is no economic dependence between the two 
operations.
    Example 5. USFlower is a corporation resident in the United 
States. USFlower produces and sells flowers in the United 
States and other countries. USFlower owns all the shares of 
MHolding, a corporation resident in Malta. MHolding is a 
holding company that is not engaged in a trade or business. 
MHolding owns all the shares of three corporations that are 
resident in Malta: MFlower, MLawn, and MFish. MFlower 
distributes USFlower flowers under the USFlower trademark in 
Malta. MLawn markets a line of lawn care products in Malta 
under the USFlower trademark. In addition to being sold under 
the same trademark, MLawn and MFlower products are sold in the 
same stores and sales of each company's products tend to 
generate increased sales of the other's products. MFish imports 
fish from the United States and distributes it to fish 
wholesalers in Malta. For purposes of paragraph 4, the business 
of MFlower forms a part of the business of USFlower, the 
business of MLawn is complementary to the business of USFlower, 
and the business of MFish is neither part of nor complementary 
to that of USFlower.
    An item of income derived from the State of source is 
``incidental to'' the trade or business carried on in the State 
of residence if production of the item facilitates the conduct 
of the trade or business in the State of residence. An example 
of incidental income is the temporary investment of working 
capital of a person in the State of residence in securities 
issued by persons in the State of source.
    Subparagraph 4(b) states a further condition to the general 
rule in clause (i) of subparagraph (a) in cases where the trade 
or business generating the item of income in question is 
carried on either by the person deriving the income or by any 
associated enterprises. Subparagraph 4(b) states that the trade 
or business carried on in the State of residence, under these 
circumstances, must be substantial in relation to the activity 
in the State of source. The substantiality requirement is 
intended to prevent a narrow case of treaty-shopping abuses in 
which a company attempts to qualify for benefits by engaging in 
de minimis connected business activities in the treaty country 
in which it is resident (i.e., activities that have little 
economic cost or effect with respect to the company business as 
a whole).
    A trade or business will be deemed substantial if, for each 
of the three preceding taxable years, the asset value, the 
gross income, and the payroll expense that are related to the 
trade or business in the first-mentioned Contracting State each 
equals at least 10 percent of the resident's (and any related 
parties') proportionate share of the asset value, gross income, 
and payroll expense, respectively, related to the activity that 
generated the income in the other Contracting State, and the 
average of the three ratios in each such year exceeds 15 
percent.
    The determination in subparagraph 4(b) is made separately 
for each item of income derived from the State of source. It 
therefore is possible that a person would be entitled to the 
benefits of the Convention with respect to one item of income 
but not with respect to another. If a resident of a Contracting 
State is entitled to treaty benefits with respect to a 
particular item of income under paragraph 4, the resident is 
entitled to all benefits of the Convention insofar as they 
affect the taxation of that item of income in the State of 
source.
    The application of the substantiality requirement only to 
income from related parties focuses only on potential abuse 
cases, and does not hamper certain other kinds of non-abusive 
activities, even though the income recipient resident in a 
Contracting State may be very small in relation to the entity 
generating income in the other Contracting State. For example, 
if a small U.S. research firm develops a process that it 
licenses to a very large, unrelated, pharmaceutical 
manufacturer in Malta, the size of the U.S. research firm would 
not have to be tested against the size of the manufacturer. 
Similarly, a small U.S. bank that makes a loan to a very large 
unrelated company operating a business in Malta would not have 
to pass a substantiality test to receive treaty benefits under 
Paragraph 4.
    Subparagraph 4(c) provides special attribution rules for 
purposes of applying the substantive rules of subparagraphs 
4(a) and 4(b). Thus, these rules apply for purposes of 
determining whether a person meets the requirement in 
subparagraph 4(a)(i) that it be engaged in the active conduct 
of a trade or business and that the item of income is derived 
in connection with that active trade or business, and for 
making the comparison required by the ``substantiality'' 
requirement in subparagraph 4(b). Subparagraph 4(c) attributes 
to a person activities conducted by persons ``connected'' to 
such person. A person (``X'') is connected to another person 
(``Y'') if X possesses 50 percent or more of the beneficial 
interest in Y (or if Y possesses 50 percent or more of the 
beneficial interest in X). For this purpose, X is connected to 
a company if X owns shares representing fifty percent or more 
of the aggregate voting power and value of the company or fifty 
percent or more of the beneficial equity interest in the 
company. X also is connected to Y if a third person possesses 
fifty percent or more of the beneficial interest in both X and 
Y. For this purpose, if X or Y is a company, the threshold 
relationship with respect to such company or companies is fifty 
percent or more of the aggregate voting power and value or 
fifty percent or more of the beneficial equity interest. 
Finally, X is connected to Y if, based upon all the facts and 
circumstances, X controls Y, Y controls X, or X and Y are 
controlled by the same person or persons.
Paragraph 5
    Paragraph 5 deals with the treatment of income in the 
context of a so-called ``triangular case.''
    An example of a triangular case would be a structure under 
which a resident of Malta earns interest income from the United 
States. The resident of Malta, who is assumed to qualify for 
benefits under one or more of the provisions of this Article, 
sets up a permanent establishment in a third jurisdiction that 
imposes only a low rate of tax on the income of the permanent 
establishment. The Maltese resident lends funds into the United 
States through the permanent establishment. The permanent 
establishment, despite its third-jurisdiction location, is an 
integral part of a Maltese resident. Therefore the income that 
it earns on those loans, absent the provisions of paragraph 5, 
is entitled to a reduced rate of withholding tax under the 
Convention. Under a current Maltese income tax treaty with the 
host jurisdiction of the permanent establishment, the income of 
the permanent establishment is exempt from Maltese tax 
(alternatively, Malta may choose to exempt the income of the 
permanent establishment from Maltese income tax by statute). 
Thus, the interest income is exempt from U.S. tax, is subject 
to little tax in the host jurisdiction of the permanent 
establishment, and is exempt from Maltese tax.
    Paragraph 5 applies reciprocally. However, the United 
States does not exempt the profits of a third-jurisdiction 
permanent establishment of a U.S. resident from U.S. tax, 
either by statute or by treaty.
    Paragraph 5 provides that the tax benefits that would 
otherwise apply under the Convention will not apply to any item 
of income if the combined tax actually paid in the residence 
State and the third state is less than 60 percent of the tax 
that would have been payable in the residence State if the 
income were earned in that State by the enterprise and were not 
attributable to the permanent establishment in the third state. 
In the case of dividends, interest and royalties to which this 
paragraph applies, the withholding tax rates under the 
Convention are replaced with a 15 percent withholding tax. Any 
other income to which the provisions of paragraph 5 apply is 
subject to tax under the domestic law of the source State, 
notwithstanding any other provisions of the Convention.
    In general, the principles employed under Code section 
954(b)(4) will be employed to determine whether the profits are 
subject to an effective rate of taxation that is above the 
specified threshold.
Paragraph 6
    Paragraph 6 provides that a resident of one of the States 
that is not entitled to the benefits of the Convention as a 
result of paragraphs 1 through 5 still may be granted benefits 
under the Convention at the discretion of the competent 
authority of the State from which benefits are claimed.
    The competent authority's discretion is quite broad. It may 
grant all of the benefits of the Convention to the taxpayer 
making the request, or it may grant only certain benefits. For 
instance, it may grant benefits only with respect to a 
particular item of income in a manner similar to paragraph 4. 
Further, the competent authority may establish conditions, such 
as setting time limits on the duration of any relief granted.
    For purposes of implementing paragraph 6, a taxpayer will 
be permitted to present his case to the relevant competent 
authority for an advance determination based on the facts. In 
these circumstances, it is also expected that, if the competent 
authority determines that benefits are to be allowed, they will 
be allowed retroactively to the time of entry into force of the 
relevant treaty provision or the establishment of the structure 
in question, whichever is later.
    Finally, there may be cases in which a resident of a 
Contracting State may apply for discretionary relief to the 
competent authority of his State of residence. This would 
arise, for example, if the benefit it is claiming is provided 
by the residence country, and not by the source country. So, 
for example, if a company that is a resident of the United 
States would like to claim the benefit of the re-sourcing rule 
of paragraph 3 of Article 23, but it does not meet any of the 
objective tests of paragraphs 2 through 4, it may apply to the 
U.S. competent authority for discretionary relief.
Paragraph 7
    Paragraph 7 is included in this Article because Malta 
continues to maintain a remittance system of taxation for 
individuals who are resident but not domiciled in Malta. Such 
persons are subject to tax in Malta on non-Maltese source 
income only to the extent that the income or gains are remitted 
to Malta. Under paragraph 7, such persons are entitled to the 
benefits of the Convention in order to reduce or eliminate tax 
only to the extent that the relevant income is remitted to or 
received in Malta. For example, if a Maltese resident who is 
not domiciled in Malta maintains a brokerage account in a third 
country into which is paid $100 in U.S.-source dividend income, 
the U.S. may impose withholding tax at the statutory rate of 30 
percent because the dividend income will not be taxed in Malta 
as it has not been remitted to Malta. If the dividend income 
instead is paid into a brokerage account in Malta, the Maltese 
resident will be subject to tax in Malta and the United States 
will reduce the rate of withholding tax to 15 percent.
Paragraph 8
    Paragraph 5 defines several key terms for purposes of 
Article 22. Each of the defined terms is discussed above in the 
context in which it is used.

                ARTICLE 23 (RELIEF FROM DOUBLE TAXATION)

    This Article describes the manner in which each Contracting 
State undertakes to relieve double taxation. The United States 
uses the foreign tax credit method under its internal law, and 
by treaty.
Paragraph 1
    The United States agrees, in paragraph 1, to allow to its 
citizens and residents a credit against U.S. tax for income 
taxes paid or accrued to Malta. Paragraph 1 also provides that 
Malta's covered taxes are income taxes for U.S. purposes. This 
provision is based on the Treasury Department's review of 
Malta's laws.
    Subparagraph 1(b) provides for a deemed-paid credit, 
consistent with section 902 of the Code, to a U.S. corporation 
in respect of dividends received from a corporation resident in 
Malta of which the U.S. corporation owns at least 10 percent of 
the voting stock. This credit is for the tax paid by the 
corporation to Malta on the profits out of which the dividends 
are considered paid.
    The credits allowed under paragraph 1 are allowed in 
accordance with the provisions and subject to the limitations 
of U.S. law, as that law may be amended over time, so long as 
the general principle of the Article, that is, the allowance of 
a credit, is retained. Thus, although the Convention provides 
for a foreign tax credit, the terms of the credit are 
determined by the provisions, at the time a credit is given, of 
the U.S. statutory credit.
    Therefore, the U.S. credit under the Convention is subject 
to the various limitations of U.S. law (see, e.g., Code 
sections 901-908). For example, the credit against U.S. tax 
generally is limited to the amount of U.S. tax due with respect 
to net foreign source income within the relevant foreign tax 
credit limitation category (see Code section 904(a) and (d)), 
and the dollar amount of the credit is determined in accordance 
with U.S. currency translation rules (see, e.g., Code section 
986). Similarly, U.S. law applies to determine carryover 
periods for excess credits and other inter-year adjustments.
    There is a typographical error in the flush language 
following paragraph subparagraph 1(b), which describes the 
taxes that will be considered income taxes for purposes of 
paragraph 1.
    The provision as drafted refers to subparagraph 3(a) of 
Article 2 (Taxes Covered), which describes the U.S. taxes 
covered by the Convention. It should refer instead to 
subparagraph 3(b).
Paragraph 2
    Paragraph 2 provides that Malta will provide relief from 
double taxation through the credit method. Malta agrees in 
subparagraph 2(a), in accordance with and subject to the 
provisions of the law of Malta, to allow a credit against 
Maltese tax for income taxes payable on U.S.-source income.
    Subparagraph 2(b) applies where a Maltese company owns at 
least 10 percent of the voting stock of a U.S. company from 
which the Maltese company receives dividends that are included 
in a Malta assessment in accordance with the Convention. In 
such a case, the income tax paid or accrued to the United 
States by or on behalf of the payer with respect to the profits 
out of which the dividends are paid shall, if those profits are 
included in a Malta assessment, be allowed as a credit against 
the relative Malta tax payable thereon.
Paragraph 3
    Paragraph 3 provides a re-sourcing rule for gross income 
covered by paragraph 1. Paragraph 3 is intended to ensure that 
a U.S. resident can obtain an appropriate amount of U.S. 
foreign tax credit for income taxes paid to Malta when the 
Convention assigns to Malta primary taxing rights over an item 
of gross income.
    Accordingly, if the Convention allows Malta to tax an item 
of gross income (as defined under U.S. law) derived by a 
resident of the United States, the United States will treat 
that item of gross income as gross income from sources within 
Malta for U.S. foreign tax credit purposes. In the case of a 
U.S.-owned foreign corporation, however, section 904(g)(10) may 
apply for purposes of determining the U.S. foreign tax credit 
with respect to income subject to this re-sourcing rule. 
Section 904(g)(10) generally applies the foreign tax credit 
limitation separately to re-sourced income. Furthermore, the 
paragraph 3 re-sourcing rule applies to gross income, not net 
income. Accordingly, U.S. expense allocation and apportionment 
rules, see, e.g., Treas. Reg. section 1.861-9, continue to 
apply to income resourced under paragraph 3.
Paragraph 4
    Paragraph 4 provides special rules for the tax treatment in 
both States of certain types of income derived from U.S. 
sources by U.S. citizens who are residents of Malta. Since U.S. 
citizens, regardless of residence, are subject to United States 
tax at ordinary progressive rates on their worldwide income, 
the U.S. tax on the U.S. source income of a U.S. citizen 
resident in Malta may exceed the U.S. tax that may be imposed 
under the Convention on an item of U.S. source income derived 
by a resident of Malta who is not a U.S. citizen. The 
provisions of paragraph 4 ensure that Malta does not bear the 
cost of U.S. taxation of its citizens who are residents of 
Malta.
    Subparagraph 4(a) provides, with respect to items of income 
from sources within the United States, special credit rules for 
Malta. These rules apply to items of U.S.-source income that 
would be either exempt from U.S. tax or subject to reduced 
rates of U.S. tax under the provisions of the Convention if 
they had been received by a resident of Malta who is not a U.S. 
citizen. The tax credit allowed under paragraph 4 with respect 
to such items need not exceed the U.S. tax that may be imposed 
under the Convention, other than tax imposed solely by reason 
of the U.S. citizenship of the taxpayer under the provisions of 
the saving clause of paragraph 4 of Article 1 (General Scope).
    For example, if a U.S. citizen resident in Malta receives a 
payment of royalties from sources within the United States, the 
foreign tax credit granted by Malta would be limited to 10 
percent of the gross amount of the royalties--the U.S. tax that 
may be imposed under paragraph 2 of Article 12 (Royalties)--
even if the shareholder is subject to U.S. net income tax 
because of his U.S. citizenship.
    Subparagraph 4(b) eliminates the potential for double 
taxation that can arise because subparagraph 4(a) provides that 
Malta need not provide full relief for the U.S. tax imposed on 
its citizens resident in Malta. Subparagraph 4(b) provides that 
the United States will credit the income tax paid or accrued to 
Malta, after the application of subparagraph 4(a). It further 
provides that in allowing the credit, the United States will 
not reduce its tax below the amount that is taken into account 
in Malta in applying subparagraph 4(a).
    Since the income described in subparagraph 4(a) generally 
will be U.S. source income, special rules are required to re-
source some of the income to Malta in order for the United 
States to be able to credit the tax paid to Malta. This re-
sourcing is provided for in subparagraph 4(c), which deems the 
items of income referred to in subparagraph 4(a) to be from 
foreign sources to the extent necessary to avoid double 
taxation under paragraph 4(b). Clause (iii) of subparagraph 
3(c) of Article 25 (Mutual Agreement Procedure) provides a 
mechanism by which the competent authorities can resolve any 
disputes regarding whether income is from sources within the 
United States.
    The following two examples illustrate the application of 
paragraph 4 in the case of U.S.source royalties received by a 
U.S. citizen resident in Malta. In both examples, the U.S. rate 
of tax on residents of Malta, under paragraph 2 of Article 12 
(Royalties) of the Convention, is 10 percent. In both examples, 
the U.S. income tax rate on the U.S. citizen is 35 percent. In 
example 1, the rate of income tax imposed in Malta on its 
resident (the U.S. citizen) is 25 percent (below the U.S. 
rate), and in example 2, the rate imposed on its resident is 40 
percent (above the U.S. rate).

------------------------------------------------------------------------
                                             Example 1       Example 2
------------------------------------------------------------------------
Subparagraph (a):
    U.S.-source royalty payment.........         $100.00         $100.00
    Notional U.S. withholding tax                  10.00           10.00
     (Article 10(2)(a)).................
    Taxable income in Malta.............          100.00          100.00
    Maltese tax before credit...........           25.00           40.00
    Less: tax credit for notional U.S.             10.00           10.00
     withholding tax....................
    Net post-credit tax paid to Malta...           15.00           30.00
 
Subparagraphs (b) and (c):
    U.S. pre-tax income.................         $100.00         $100.00
    U.S. pre-credit citizenship tax.....           35.00           35.00
    Notional U.S. withholding tax.......           10.00           10.00
    U.S. tax eligible to be offset by              25.00           25.00
     credit.............................
    Tax paid to Malta...................           15.00           30.00
    Income re-sourced from U.S. to                 42.86           71.43
     foreign source (see below).........
    U.S. pre-credit tax on re-sourced              15.00           25.00
     income.............................
    U.S. credit for tax paid to Malta...           15.00           25.00
    Net post-credit U.S. tax............           10.00            0.00
    Total U.S. tax......................           20.00           10.00
------------------------------------------------------------------------

    In both examples, in the application of subparagraph (a), 
Malta credits a 10 percent U.S. tax against its residence tax 
on the U.S. citizen. In the first example, the net tax paid to 
Malta after the foreign tax credit is $15.00; in the second 
example, it is $30.00. In the application of subparagraphs (b) 
and (c), from the U.S. tax due before credit of $35.00, the 
United States subtracts the amount of the U.S. source tax of 
$10.00, against which no U.S. foreign tax credit is allowed. 
This subtraction ensures that the United States collects the 
tax that it is due under the Convention as the State of source.
    In both examples, given the 35 percent U.S. tax rate, the 
maximum amount of U.S. tax against which credit for the tax 
paid to Malta may be claimed is $25 ($35 U.S. tax minus $10 
U.S. withholding tax). Initially, all of the income in both 
examples was from sources within the United States. For a U.S. 
foreign tax credit to be allowed for the full amount of the tax 
paid to Malta, an appropriate amount of the income must be 
treated as foreign-source income under subparagraph (c).
    The amount that must be re-sourced depends on the amount of 
tax for which the U.S. citizen is claiming a U.S. foreign tax 
credit. In example 1, the tax paid to Malta was $15. For this 
amount to be creditable against U.S. tax, $42.86 ($15 tax 
divided by 35 percent U.S. tax rate) must be resourced as 
foreign-source income. When the tax is credited against the $15 
of U.S. tax on this resourced income, there is a net U.S. tax 
of $10 due after credit ($25 U.S. tax eligible to be offset by 
credit, minus $15 tax paid to Malta). Thus, in example 1, there 
is a total of $20 in U.S. tax ($10 U.S. withholding tax plus 
$10 residual U.S. tax).
    In example 2, the tax paid to Malta was $30, but, because 
the United States subtracts the U.S. withholding tax of $10 
from the total U.S. tax of $35, only $25 of U.S. taxes may be 
offset by taxes paid to Malta. Accordingly, the amount that 
must be resourced to Malta is limited to the amount necessary 
to ensure a U.S. foreign tax credit for $25 of tax paid to 
Malta, or $71.43 ($25 tax paid to the other Contracting State 
divided by 35 percent U.S. tax rate). When the tax paid to 
Malta is credited against the U.S. tax on this re-sourced 
income, there is no residual U.S. tax ($25 U.S. tax minus $30 
tax paid to Malta, subject to the U.S. limit of $25). Thus, in 
example 2, there is a total of $10 in U.S. tax ($10 U.S. 
withholding tax plus $0 residual U.S. tax). Because the tax 
paid to Malta was $30 and the U.S. tax eligible to be offset by 
credit was $25, there is $5 of excess foreign tax credit 
available for carryover.
Relationship to Other Articles
    By virtue of subparagraph (a) of paragraph 5 of Article 1 
(General Scope), Article 23 is not subject to the saving clause 
of paragraph 4 of Article 1. Thus, the United States will allow 
a credit to its citizens and residents in accordance with the 
Article, even if such credit were to provide a benefit not 
available under the Code (such as the re-sourcing provided by 
paragraph 3 and subparagraph 4(c)).

                    ARTICLE 24 (NON-DISCRIMINATION)

    This Article ensures that nationals of a Contracting State, 
in the case of paragraph 1, and residents of a Contracting 
State, in the case of paragraphs 2 through 5, will not be 
subject, directly or indirectly, to discriminatory taxation in 
the other Contracting State. Not all differences in tax 
treatment, either as between nationals of the two States, or 
between residents of the two States, are violations of the 
prohibition against discrimination. Rather, the 
nondiscrimination obligations of this Article apply only if the 
nationals or residents of the two States are comparably 
situated.
    Each of the relevant paragraphs of the Article provides 
that two persons that are comparably situated must be treated 
similarly. Although the actual words differ from paragraph to 
paragraph (e.g., paragraph 1 refers to two nationals ``in the 
same circumstances,'' paragraph 2 refers to two enterprises 
``carrying on the same activities'' and paragraph 4 refers to 
two enterprises that are ``similar''), the common underlying 
premise is that if the difference in treatment is directly 
related to a tax-relevant difference in the situations of the 
domestic and foreign persons being compared, that difference is 
not to be treated as discriminatory (i.e., if one person is 
taxable in a Contracting State on worldwide income and the 
other is not, or tax may be collectible from one person at a 
later stage, but not from the other, distinctions in treatment 
would be justified under paragraph 1). Other examples of such 
factors that can lead to nondiscriminatory differences in 
treatment are noted in the discussions of each paragraph.
    The operative paragraphs of the Article also use different 
language to identify the kinds of differences in taxation 
treatment that will be considered discriminatory. For example, 
paragraphs 1 and 4 speak of ``any taxation or any requirement 
connected therewith that is more burdensome,'' while paragraph 
2 specifies that a tax ``shall not be less favorably levied.'' 
Regardless of these differences in language, only differences 
in tax treatment that materially disadvantage the foreign 
person relative to the domestic person are properly the subject 
of the Article.
Paragraph 1
    Paragraph 1 provides that a national of one Contracting 
State may not be subject to taxation or connected requirements 
in the other Contracting State that are more burdensome than 
the taxes and connected requirements imposed upon a national of 
that other State in the same circumstances. The OECD Model 
prohibits taxation that is ``other than or more burdensome'' 
than that imposed on U.S. persons. This Convention omits the 
reference to taxation that is ``other than'' that imposed on 
U.S. persons because the only relevant question under this 
provision should be whether the requirement imposed on a 
national of the other Contracting State is more burdensome. A 
requirement may be different from the requirements imposed on 
U.S. nationals without being more burdensome.
    The term ``national'' in relation to a Contracting State is 
defined in subparagraph 1(j) of Article 3 (General 
Definitions). The term includes both individuals and juridical 
persons. A national of a Contracting State is afforded 
protection under this paragraph even if the national is not a 
resident of either Contracting State. Thus, a U.S. citizen who 
is resident in a third country is entitled, under this 
paragraph, to the same treatment in Malta as a national of 
Malta who is in similar circumstances (i.e., presumably one who 
is resident in a third State).
    As noted above, whether or not the two persons are both 
taxable on worldwide income is a significant circumstance for 
this purpose. For this reason, paragraph 1 specifically states 
that the United States is not obligated to apply the same 
taxing regime to a national of Malta who is not resident in the 
United States as it applies to a U.S. national who is not 
resident in the United States. United States citizens who are 
not residents of the United States but who are, nevertheless, 
subject to United States tax on their worldwide income are not 
in the same circumstances with respect to United States 
taxation as citizens of Malta who are not United States 
residents. Thus, for example, Article 24 would not entitle a 
national of Malta resident in a third country to taxation at 
graduated rates on U.S. source dividends or other investment 
income that applies to a U.S. citizen resident in the same 
third country.
Paragraph 2
    Paragraph 2 of the Article, provides that a Contracting 
State may not tax a permanent establishment of an enterprise of 
the other Contracting State less favorably than an enterprise 
of that first-mentioned State that is carrying on the same 
activities.
    The fact that a U.S. permanent establishment of an 
enterprise of Malta is subject to U.S. tax only on income that 
is attributable to the permanent establishment, while a U.S. 
corporation engaged in the same activities is taxable on its 
worldwide income is not, in itself, a sufficient difference to 
provide different treatment for the permanent establishment. 
There are cases, however, where the two enterprises would not 
be similarly situated and differences in treatment may be 
warranted. For instance, it would not be a violation of the 
non-discrimination protection of paragraph 2 to require the 
foreign enterprise to provide information in a reasonable 
manner that may be different from the information requirements 
imposed on a resident enterprise, because information may not 
be as readily available to the Internal Revenue Service from a 
foreign as from a domestic enterprise. Similarly, it would not 
be a violation of paragraph 2 to impose penalties on persons 
who fail to comply with such a requirement (see, e.g., sections 
874(a) and 882(c)(2)). Further, a determination that income and 
expenses have been attributed or allocated to a permanent 
establishment in conformity with the principles of Article 7 
(Business Profits) implies that the attribution or allocation 
was not discriminatory.
    Section 1446 of the Code imposes on any partnership with 
income that is effectively connected with a U.S. trade or 
business the obligation to withhold tax on amounts allocable to 
a foreign partner. In the context of the Convention, this 
obligation applies with respect to a share of the partnership 
income of a partner resident in Malta, and attributable to a 
U.S. permanent establishment. There is no similar obligation 
with respect to the distributive shares of U.S. resident 
partners. It is understood, however, that this distinction is 
not a form of discrimination within the meaning of paragraph 2 
of the Article. No distinction is made between U.S. and non-
U.S. partnerships, since the law requires that partnerships of 
both U.S. and non-U.S. domicile withhold tax in respect of the 
partnership shares of non-U.S. partners. Furthermore, in 
distinguishing between U.S. and non-U.S. partners, the 
requirement to withhold on the non-U.S. but not the U.S. 
partner's share is not discriminatory taxation, but, like other 
withholding on nonresident aliens, is merely a reasonable 
method for the collection of tax from persons who are not 
continually present in the United States, and as to whom it 
otherwise may be difficult for the United States to enforce its 
tax jurisdiction. If tax has been over-withheld, the partner 
can, as in other cases of over-withholding, file for a refund.
Paragraph 3
    Paragraph 3 makes clear that the provisions of paragraphs 1 
and 2 do not obligate a Contracting State to grant to a 
resident of the other Contracting State any tax allowances, 
reliefs, etc., that it grants to its own residents on account 
of their civil status or family responsibilities. Thus, if a 
sole proprietor who is a resident of Malta has a permanent 
establishment in the United States, in assessing income tax on 
the profits attributable to the permanent establishment, the 
United States is not obligated to allow to the resident of 
Malta the personal allowances for himself and his family that 
he would be permitted to take if the permanent establishment 
were a sole proprietorship owned and operated by a U.S. 
resident, despite the fact that the individual income tax rates 
would apply.
Paragraph 4
    Paragraph 4 prohibits discrimination in the allowance of 
deductions. When a resident or an enterprise of a Contracting 
State pays interest, royalties or other disbursements to a 
resident of the other Contracting State, the first-mentioned 
Contracting State must allow a deduction for those payments in 
computing the taxable profits of the resident or enterprise as 
if the payment had been made under the same conditions to a 
resident of the first-mentioned Contracting State. Paragraph 4, 
however, does not require a Contracting State to give 
nonresidents more favorable treatment than it gives to its own 
residents. Consequently, a Contracting State does not have to 
allow nonresidents a deduction for items that are not 
deductible under its domestic law (for example, expenses of a 
capital nature).
    The term ``other disbursements'' is understood to include a 
reasonable allocation of executive and general administrative 
expenses, research and development expenses and other expenses 
incurred for the benefit of a group of related persons that 
includes the person incurring the expense.
    An exception to the rule of paragraph 4 is provided for 
cases where the provisions of paragraph 1 of Article 9 
(Associated Enterprises), paragraph 7 of Article 11 (Interest) 
or paragraph 6 of Article 12 (Royalties) apply. All of these 
provisions permit the denial of deductions in certain 
circumstances in respect of transactions between related 
persons. Neither State is forced to apply the non-
discrimination principle in such cases. The exception with 
respect to paragraph 7 of Article 11 would include the denial 
or deferral of certain interest deductions under Code section 
163(j).
    Paragraph 4 also provides that any debts of an enterprise 
of a Contracting State to a resident of the other Contracting 
State are deductible in the first-mentioned Contracting State 
for purposes of computing the capital tax of the enterprise 
under the same conditions as if the debt had been contracted to 
a resident of the first-mentioned Contracting State. Even 
though, for general purposes, the Convention covers only income 
taxes, under paragraph 7 of this Article, the nondiscrimination 
provisions apply to all taxes levied in both Contracting 
States, at all levels of government. Thus, this provision may 
be relevant for both States. The other Contracting State may 
have capital taxes and in the United States such taxes 
frequently are imposed by local governments.
Paragraph 5
    Paragraph 5 requires that a Contracting State not impose 
more burdensome taxation or connected requirements on an 
enterprise of that State that is wholly or partly owned or 
controlled, directly or indirectly, by one or more residents of 
the other Contracting State than the taxation or connected 
requirements that it imposes on other similar enterprises of 
that first-mentioned Contracting State. For this purpose it is 
understood that ``similar'' refers to similar activities or 
ownership of the enterprise.
    This rule, like all non-discrimination provisions, does not 
prohibit differing treatment of entities that are in differing 
circumstances. Rather, a protected enterprise is only required 
to be treated in the same manner as other enterprises that, 
from the point of view of the application of the tax law, are 
in substantially similar circumstances both in law and in fact. 
The taxation of a distributing corporation under section 367(e) 
on an applicable distribution to foreign shareholders does not 
violate paragraph 5 of the Article because a foreign-owned 
corporation is not similar to a domestically-owned corporation 
that is accorded non-recognition treatment under sections 337 
and 355.
    For the reasons given above in connection with the 
discussion of paragraph 2 of the Article, it is also understood 
that the provision in section 1446 of the Code for withholding 
of tax on non-U.S. partners does not violate paragraph 5 of the 
Article.
    It is further understood that the ineligibility of a U.S. 
corporation with nonresident alien shareholders to make an 
election to be an ``S'' corporation does not violate paragraph 
5 of the Article. If a corporation elects to be an S 
corporation, it is generally not subject to income tax and the 
shareholders take into account their pro rata shares of the 
corporation's items of income, loss, deduction or credit. (The 
purpose of the provision is to allow an individual or small 
group of individuals the protections of conducting business in 
corporate form while paying taxes at individual rates as if the 
business were conducted directly.) A nonresident alien does not 
pay U.S. tax on a net basis, and, thus, does not generally take 
into account items of loss, deduction or credit. Thus, the S 
corporation provisions do not exclude corporations with 
nonresident alien shareholders because such shareholders are 
foreign, but only because they are not net-basis taxpayers. 
Similarly, the provisions exclude corporations with other types 
of shareholders where the purpose of the provisions cannot be 
fulfilled or their mechanics implemented. For example, 
corporations with corporate shareholders are excluded because 
the purpose of the provision to permit individuals to conduct a 
business in corporate form at individual tax rates would not be 
furthered by their inclusion.
    Finally, it is understood that paragraph 5 does not require 
a Contracting State to allow foreign corporations to join in 
filing a consolidated return with a domestic corporation or to 
allow similar benefits between domestic and foreign 
enterprises.
Paragraph 6
    Paragraph 6 of the Article confirms that no provision of 
the Article will prevent either Contracting State from imposing 
the branch profits tax described in paragraph 8 of Article 10 
(Dividends).
Paragraph 7
    As noted above, notwithstanding the specification of taxes 
covered by the Convention in Article 2 (Taxes Covered) for 
general purposes, for purposes of providing nondiscrimination 
protection this Article applies to taxes of every kind and 
description imposed by a Contracting State or a political 
subdivision or local authority thereof. Customs duties are not 
considered to be taxes for this purpose.
Relationship to Other Articles
    The saving clause of paragraph 4 of Article 1 (General 
Scope) does not apply to this Article by virtue of the 
exceptions in paragraph 5(a) of Article 1. Thus, for example, a 
U.S. citizen who is a resident of Malta may claim benefits in 
the United States under this Article.
    Nationals of a Contracting State may claim the benefits of 
paragraph 1 regardless of whether they are entitled to benefits 
under Article 22 (Limitation on Benefits), because that 
paragraph applies to nationals and not residents. They may not 
claim the benefits of the other paragraphs of this Article with 
respect to an item of income unless they are generally entitled 
to treaty benefits with respect to that income under a 
provision of Article 22.

                ARTICLE 25 (MUTUAL AGREEMENT PROCEDURE)

    This Article provides the mechanism for taxpayers to bring 
to the attention of competent authorities issues and problems 
that may arise under the Convention. It also provides the 
authority for cooperation between the competent authorities of 
the Contracting States to resolve disputes and clarify issues 
that may arise under the Convention and to resolve cases of 
double taxation not provided for in the Convention. The 
competent authorities of the two Contracting States are 
identified in paragraph 1(g) of Article 3 (General 
Definitions).
Paragraph 1
    This paragraph provides that where a resident of a 
Contracting State considers that the actions of one or both 
Contracting States will result in taxation that is not in 
accordance with the Convention he may present his case to the 
competent authority of either Contracting State. This rule is 
more generous than in most treaties, which generally allow 
taxpayers to bring competent authority cases only to the 
competent authority of their country of residence, or 
citizenship/nationality. Under this more generous rule, a U.S. 
permanent establishment of a corporation resident in Malta that 
faces inconsistent treatment in the two countries would be able 
to bring its request for assistance to the U.S. competent 
authority. If the U.S. competent authority can resolve the 
issue on its own, then the taxpayer need never involve the 
Maltese competent authority. Thus, the rule provides 
flexibility that might result in greater efficiency.
    Although the typical cases brought under this paragraph 
will involve economic double taxation arising from transfer 
pricing adjustments, the scope of this paragraph is not limited 
to such cases. For example, a taxpayer could request assistance 
from the competent authority if one Contracting State 
determines that the taxpayer has received deferred compensation 
taxable at source under Article 14 (Income from Employment), 
while the taxpayer believes that such income should be treated 
as a pension that is taxable only in his country of residence 
pursuant to Article 17 (Pensions, Social Security, Annuities, 
Alimony, and Child Support).
    It is not necessary for a person requesting assistance 
first to have exhausted the remedies provided under the 
national laws of the Contracting States before presenting a 
case to the competent authorities, nor does the fact that the 
statute of limitations may have passed for seeking a refund 
preclude bringing a case to the competent authority. Unlike the 
OECD Model, no time limit is provided within which a case must 
be brought.
Paragraph 2
    Paragraph 2 sets out the framework within which the 
competent authorities will deal with cases brought by taxpayers 
under paragraph 1. It provides that, if the competent authority 
of the Contracting State to which the case is presented judges 
the case to have merit, and cannot reach a unilateral solution, 
it shall seek an agreement with the competent authority of the 
other Contracting State pursuant to which taxation not in 
accordance with the Convention will be avoided.
    Any agreement is to be implemented even if such 
implementation otherwise would be barred by the statute of 
limitations or by some other procedural limitation, such as a 
closing agreement. Paragraph 2, however, does not prevent the 
application of domestic-law procedural limitations that give 
effect to the agreement (e.g., a domestic-law requirement that 
the taxpayer file a return reflecting the agreement within one 
year of the date of the agreement).
    Where the taxpayer has entered a closing agreement (or 
other written settlement) with the United States before 
bringing a case to the competent authorities, the U.S. 
competent authority will endeavor only to obtain a correlative 
adjustment from Malta. See Rev. Proc. 200654, 2006-49 I.R.B. 
1035, Sec. 7.05. Because, as specified in paragraph 2 of 
Article 1 (General Scope), the Convention cannot operate to 
increase a taxpayer's liability, temporal or other procedural 
limitations can be overridden only for the purpose of making 
refunds and not to impose additional tax.
Paragraph 3
    Paragraph 3 authorizes the competent authorities to resolve 
difficulties or doubts that may arise as to the application or 
interpretation of the Convention. The paragraph includes a non-
exhaustive list of examples of the kinds of matters about which 
the competent authorities may reach agreement. This list is 
purely illustrative; it does not grant any authority that is 
not implicitly present as a result of the introductory sentence 
of paragraph 3.
    The competent authorities may, for example, agree to the 
same allocation of income, deductions, credits or allowances 
between an enterprise in one Contracting State and its 
permanent establishment in the other or between related 
persons. These allocations are to be made in accordance with 
the arm's length principle underlying Article 7 (Business 
Profits) and Article 9 (Associated Enterprises). Agreements 
reached under these subparagraphs may include agreement on a 
methodology for determining an appropriate transfer price, on 
an acceptable range of results under that methodology, or on a 
common treatment of a taxpayer's cost sharing arrangement.
    As indicated in subparagraph 3(c), the competent 
authorities also may agree to settle a variety of conflicting 
applications of the Convention. They may agree to settle 
conflicts regarding the characterization of particular items of 
income, the characterization of persons, the application of 
source rules to particular items of income, the meaning of a 
term, or the timing of an item of income.
    The competent authorities also may agree as to advance 
pricing arrangements. They also may agree as to the application 
of the provisions of domestic law regarding penalties, fines, 
and interest in a manner consistent with the purposes of the 
Convention.
    Since the list under paragraph 3 is not exhaustive, the 
competent authorities may reach agreement on issues not 
enumerated in paragraph 3 if necessary to avoid double 
taxation. For example, the competent authorities may seek 
agreement on a uniform set of standards for the use of exchange 
rates. Agreements reached by the competent authorities under 
paragraph 3 need not conform to the internal law provisions of 
either Contracting State.
    Finally, paragraph 3 authorizes the competent authorities 
to consult for the purpose of eliminating double taxation in 
cases not provided for in the Convention and to resolve any 
difficulties or doubts arising as to the interpretation or 
application of the Convention. This provision is intended to 
permit the competent authorities to implement the treaty in 
particular cases in a manner that is consistent with its 
expressed general purposes. It permits the competent 
authorities to deal with cases that are within the spirit of 
the provisions but that are not specifically covered. An 
example of such a case might be double taxation arising from a 
transfer pricing adjustment between two permanent 
establishments of a third-country resident, one in the United 
States and one in Malta. Since no resident of a Contracting 
State is involved in the case, the Convention does not apply, 
but the competent authorities nevertheless may use the 
authority of this Article to prevent the double taxation of 
income.
Paragraph 4
    Paragraph 4 authorizes the competent authorities to 
increase any dollar amounts referred to in the Convention to 
reflect economic and monetary developments. This refers only to 
Article 16 (Entertainers and Sportsmen); Article 20 (Students 
and Trainees) separately instructs the competent authorities to 
adjust the exemption amount for students and trainees in 
accordance with specified guidelines. The rule under paragraph 
4 is intended to operate as follows: if, for example, after the 
Convention has been in force for some time, inflation rates 
have been such as to make the $20,000 exemption threshold for 
entertainers unrealistically low in terms of the original 
objectives intended in setting the threshold, the competent 
authorities may agree to a higher threshold without the need 
for formal amendment to the treaty and ratification by the 
Contracting States. This authority can be exercised, however, 
only to the extent necessary to restore those original 
objectives. This provision can be applied only to the benefit 
of taxpayers (i.e., only to increase thresholds, not to reduce 
them).
Paragraph 5
    Paragraph 5 provides that the competent authorities may 
communicate with each other for the purpose of reaching an 
agreement. This makes clear that the competent authorities of 
the two Contracting States may communicate without going 
through diplomatic channels. Such communication may be in 
various forms, including, where appropriate, through face-to-
face meetings of representatives of the competent authorities.
Treaty termination in relation to competent authority dispute 
        resolution
    A case may be raised by a taxpayer after the Convention has 
been terminated with respect to a year for which a treaty was 
in force. In such a case the ability of the competent 
authorities to act is limited. They may not exchange 
confidential information, nor may they reach a solution that 
varies from that specified in its law.
Triangular competent authority solutions
    International tax cases may involve more than two taxing 
jurisdictions (e.g., transactions among a parent corporation 
resident in country A and its subsidiaries resident in 
countries B and C). As long as there is a complete network of 
treaties among the three countries, it should be possible, 
under the full combination of bilateral authorities, for the 
competent authorities of the three States to work together on a 
three-sided solution. Although country A may not be able to 
give information received under Article 26 (Exchange of 
Information and Administrative Assistance) from country B to 
the authorities of country C, if the competent authorities of 
the three countries are working together, it should not be a 
problem for them to arrange for the authorities of country B to 
give the necessary information directly to the tax authorities 
of country C, as well as to those of country A. Each bilateral 
part of the trilateral solution must, of course, not exceed the 
scope of the authority of the competent authorities under the 
relevant bilateral treaty.
Relationship to Other Articles
    This Article is not subject to the saving clause of 
paragraph 4 of Article 1 (General Scope) by virtue of the 
exceptions in subparagraph 5(a) of that Article. Thus, rules, 
definitions, procedures, etc. that are agreed upon by the 
competent authorities under this Article may be applied by the 
United States with respect to its citizens and residents even 
if they differ from the comparable Code provisions. Similarly, 
as indicated above, U.S. law may be overridden to provide 
refunds of tax to a U.S. citizen or resident under this 
Article. A person may seek relief under Article 25 regardless 
of whether he is generally entitled to benefits under Article 
22 (Limitation on Benefits). As in all other cases, the 
competent authority is vested with the discretion to decide 
whether the claim for relief is justified.

   ARTICLE 26 (EXCHANGE OF INFORMATION AND ADMINISTRATIVE ASSISTANCE)

    This Article provides for the exchange of information and 
administrative assistance between the competent authorities of 
the Contracting States.
Paragraph 1
    The obligation to obtain and provide information to the 
other Contracting State is set out in Paragraph 1. The 
information to be exchanged is that which may be relevant for 
carrying out the provisions of the Convention or the domestic 
laws of the United States or of the other Contracting State 
concerning taxes of every kind applied at the national level. 
This language incorporates the standard in 26 U.S.C. Section 
7602 which authorizes the IRS to examine ``any books, papers, 
records, or other data which may be relevant or material.'' 
(Emphasis added.) In United States v. Arthur Young & Co., 465 
U.S. 805, 814 (1984), the Supreme Court stated that the 
language ``may be'' reflects Congress's express intention to 
allow the IRS to obtain ``items of even potential relevance to 
an ongoing investigation, without reference to its 
admissibility.'' (Emphasis in original.) However, the language 
``may be'' would not support a request in which a Contracting 
State simply asked for information regarding all bank accounts 
maintained by residents of that Contracting State in the other 
Contracting State, or even all accounts maintained by its 
residents with respect to a particular bank.
    Exchange of information with respect to each State's 
domestic law is authorized to the extent that taxation under 
domestic law is not contrary to the Convention. Thus, for 
example, information may be exchanged with respect to a covered 
tax, even if the transaction to which the information relates 
is a purely domestic transaction in the requesting State and, 
therefore, the exchange is not made to carry out the 
Convention. An example of such a case is provided in paragraph 
8(b) of the OECD Commentary: a company resident in one 
Contracting State and a company resident in the other 
Contracting State transact business between themselves through 
a third-country resident company. Neither Contracting State has 
a treaty with the third State. To enforce their internal laws 
with respect to transactions of their residents with the third-
country company (since there is no relevant treaty in force), 
the Contracting States may exchange information regarding the 
prices that their residents paid in their transactions with the 
third-country resident.
    Paragraph 1 clarifies that information may be exchanged 
that relates to the assessment or collection of, the 
enforcement or prosecution in respect of, or the determination 
of appeals in relation to, the taxes covered by the Convention. 
Thus, the competent authorities may request and provide 
information for cases under examination or criminal 
investigation, in collection, on appeals, or under prosecution.
    The taxes covered by the Convention for purposes of this 
Article constitute a broader category of taxes than those 
referred to in Article 2 (Taxes Covered). Exchange of 
information is authorized with respect to taxes of every kind 
imposed by a Contracting State at the national level. 
Accordingly, information may be exchanged with respect to U.S. 
estate and gift taxes, excise taxes or, with respect to Malta, 
value added taxes.
    Information exchange is not restricted by paragraph 1 of 
Article 1 (General Scope). Accordingly, information may be 
requested and provided under this article with respect to 
persons who are not residents of either Contracting State. For 
example, if a third-country resident has a permanent 
establishment in Malta, and that permanent establishment 
engages in transactions with a U.S. enterprise, the United 
States could request information with respect to that permanent 
establishment, even though the third-country resident is not a 
resident of either Contracting State. Similarly, if a third-
country resident maintains a bank account in Malta, and the 
Internal Revenue Service has reason to believe that funds in 
that account should have been reported for U.S. tax purposes 
but have not been so reported, information can be requested 
from Malta with respect to that person's account, even though 
that person is not the taxpayer under examination.
    Although the term ``United States'' does not encompass U.S. 
possessions for most purposes of the Convention, Section 7651 
of the Code authorizes the Internal Revenue Service to utilize 
the provisions of the Internal Revenue Code to obtain 
information from the U.S. possessions pursuant to a proper 
request made under Article 26. If necessary to obtain requested 
information, the Internal Revenue Service could issue and 
enforce an administrative summons to the taxpayer, a tax 
authority (or a government agency in a U.S. possession), or a 
third party located in a U.S. possession.
Paragraph 2
    Paragraph 2 provides assurances that any information 
exchanged will be treated as secret, subject to the same 
disclosure constraints as information obtained under the laws 
of the requesting State. Information received may be disclosed 
only to persons, including courts and administrative bodies, 
involved in the assessment, collection, or administration of, 
the enforcement or prosecution in respect of, or the 
determination of the of appeals in relation to, the taxes 
covered by the Convention. The information must be used by 
these persons in connection with the specified functions. 
Information may also be disclosed to legislative bodies, such 
as the tax-writing committees of Congress and the Government 
Accountability Office, engaged in the oversight of the 
preceding activities. Information received by these bodies must 
be for use in the performance of their role in overseeing the 
administration of U.S. tax laws. Information received may be 
disclosed in public court proceedings or in judicial decisions.
    Paragraph 2 also provides that the competent authority of 
the Contracting State that receives information under this 
Article may, with the written consent of the other Contracting 
State, make that information available to be used for other 
purposes allowed under the provisions of an existing mutual 
legal assistance treaty between the Contracting States that 
allows for the exchange of tax information.
Paragraph 3
    Paragraph 3 provides that the obligations undertaken in 
paragraphs 1 and 2 to exchange information do not require a 
Contracting State to carry out administrative measures that are 
at variance with the laws or administrative practice of either 
State. Nor is a Contracting State required to supply 
information not obtainable under the laws or administrative 
practice of either State, or to disclose trade secrets or other 
information, the disclosure of which would be contrary to 
public policy.
    Thus, a requesting State may be denied information from the 
other State if the information would be obtained pursuant to 
procedures or measures that are broader than those available in 
the requesting State. However, the statute of limitations of 
the Contracting State making the request for information should 
govern a request for information. Thus, the Contracting State 
of which the request is made should attempt to obtain the 
information even if its own statute of limitations has passed. 
In many cases, relevant information will still exist in the 
business records of the taxpayer or a third party, even though 
it is no longer required to be kept for domestic tax purposes.
    While paragraph 3 states conditions under which a 
Contracting State is not obligated to comply with a request 
from the other Contracting State for information, the requested 
State is not precluded from providing such information, and 
may, at its discretion, do so subject to the limitations of its 
internal law.
Paragraph 4
    Paragraph 4 provides that when information is requested by 
a Contracting State in accordance with this Article, the other 
Contracting State is obligated to obtain the requested 
information as if the tax in question were the tax of the 
requested State, even if that State has no direct tax interest 
in the case to which the request relates. In the absence of 
such a paragraph, some taxpayers have argued that paragraph 
3(a) prevents a Contracting State from requesting information 
from a bank or fiduciary that the Contracting State does not 
need for its own tax purposes. This paragraph clarifies that 
paragraph 3 does not impose such a restriction and that a 
Contracting State is not limited to providing only the 
information that it already has in its own files.
Paragraph 5
    Paragraph 5 provides that a Contracting State may not 
decline to provide information because that information is held 
by financial institutions, nominees or persons acting in an 
agency or fiduciary capacity. Thus, paragraph 5 would 
effectively prevent a Contracting State from relying on 
paragraph 3 to argue that its domestic bank secrecy laws (or 
similar legislation relating to disclosure of financial 
information by financial institutions or intermediaries) 
override its obligation to provide information under paragraph 
1. This paragraph also requires the disclosure of information 
regarding the beneficial owner of an interest in a person, such 
as the identity of a beneficial owner of bearer shares.
Paragraph 6
    Paragraph 6 provides that the requesting State may specify 
the form in which information is to be provided (e.g., 
depositions of witnesses and authenticated copies of original 
documents). The intention is to ensure that the information may 
be introduced as evidence in the judicial proceedings of the 
requesting State. The requested State should, if possible, 
provide the information in the form requested to the same 
extent that it can obtain information in that form under its 
own laws and administrative practices with respect to its own 
taxes.
Paragraph 7
    Paragraph 7 provides that the requested State shall allow 
representatives of the applicant State to enter the requested 
State to interview individuals and examine books and records 
with the consent of the persons subject to examination.
Paragraph 8
    Paragraph 8 states that the competent authorities of the 
Contracting States may develop an agreement upon the mode of 
application of the Article. The article authorizes the 
competent authorities to exchange information on a routine 
basis, on request in relation to a specific case, or 
spontaneously. It is contemplated that the Contracting States 
will utilize this authority to engage in all of these forms of 
information exchange, as appropriate.
    The competent authorities may also agree on specific 
procedures and timetables for the exchange of information. In 
particular, the competent authorities may agree on minimum 
thresholds regarding tax at stake or take other measures aimed 
at ensuring some measure of reciprocity with respect to the 
overall exchange of information between the Contracting States.
Treaty effective dates and termination in relation to exchange of 
        information
    Once the Convention is in force, the competent authority 
may seek information under the Convention with respect to a 
year prior to the entry into force of the Convention. Even if 
an earlier Convention with more restrictive provisions, or even 
no Convention, was in effect during the years in which the 
transaction at issue occurred, the exchange of information 
provisions of the Convention apply. In that case, the competent 
authorities have available to them the full range of 
information exchange provisions afforded under this Article. 
Paragraph 3 of Article 28 (Entry into Force) confirms this 
understanding with respect to the effective date of the 
Article.
    A tax administration may also seek information with respect 
to a year for which a treaty was in force after the treaty has 
been terminated. In such a case the ability of the other tax 
administration to act is limited. The treaty no longer provides 
authority for the tax administrations to exchange confidential 
information. They may only exchange information pursuant to 
domestic law or other international agreement or arrangement.

     ARTICLE 27 (MEMBERS OF DIPLOMATIC MISSIONS AND CONSULAR POSTS)

    This Article confirms that any fiscal privileges to which 
diplomatic or consular officials are entitled under general 
provisions of international law or under special agreements 
will apply notwithstanding any provisions to the contrary in 
the Convention. The agreements referred to include any 
bilateral agreements, such as consular conventions, that affect 
the taxation of diplomats and consular officials and any 
multilateral agreements dealing with these issues, such as the 
Vienna Convention on Diplomatic Relations and the Vienna 
Convention on Consular Relations. The U.S. generally adheres to 
the latter because its terms are consistent with customary 
international law.
    The Article does not independently provide any benefits to 
diplomatic agents and consular officers. Article 19 (Government 
Service) does so, as do Code section 893 and a number of 
bilateral and multilateral agreements. In the event that there 
is a conflict between the Convention and international law or 
such other treaties, under which the diplomatic agent or 
consular official is entitled to greater benefits under the 
latter, the latter laws or agreements shall have precedence. 
Conversely, if the Convention confers a greater benefit than 
another agreement, the affected person could claim the benefit 
of the tax treaty.
    Pursuant to subparagraph 5(b) of Article 1 (General Scope), 
the saving clause of paragraph 4 of Article 1 does not apply to 
override any benefits of this Article available to an 
individual who is neither a citizen of the United States nor 
has immigrant status in the United States.

                     ARTICLE 28 (ENTRY INTO FORCE)

    This Article contains the rules for bringing the Convention 
into force and giving effect to its provisions.
Paragraph 1
    Paragraph 1 provides for the ratification of the Convention 
by both Contracting States according to their constitutional 
and statutory requirements. Instruments of ratification shall 
be exchanged as soon as possible.
    In the United States, the process leading to ratification 
and entry into force is as follows: Once a treaty has been 
signed by authorized representatives of the two Contracting 
States, the Department of State sends the treaty to the 
President who formally transmits it to the Senate for its 
advice and consent to ratification, which requires approval by 
two-thirds of the Senators present and voting. Prior to this 
vote, however, it generally has been the practice for the 
Senate Committee on Foreign Relations to hold hearings on the 
treaty and make a recommendation regarding its approval to the 
full Senate. Both Government and private sector witnesses may 
testify at these hearings. After the Senate gives its advice 
and consent to ratification of the treaty, an instrument of 
ratification is drafted for the President's signature. The 
President's signature completes the process in the United 
States.
Paragraph 2
    Paragraph 2 provides that the Convention will enter into 
force upon the exchange of instruments of ratification. The 
date on which a treaty enters into force is not necessarily the 
date on which its provisions take effect. Paragraph 2, 
therefore, also contains rules that determine when the 
provisions of the treaty will have effect.
    Under paragraph 2(a), the Convention will have effect with 
respect to taxes withheld at source (principally dividends, 
interest and royalties) for amounts paid or credited on or 
after the first day of the second month following the date on 
which the Convention enters into force. For example, if 
instruments of ratification are exchanged on April 25 of a 
given year, the withholding rates specified in paragraph 2 of 
Article 10 (Dividends) would be applicable to any dividends 
paid or credited on or after June 1 of that year. This rule 
allows the benefits of the withholding reductions to be put 
into effect as soon as possible, without waiting until the 
following year. The delay of one to two months is required to 
allow sufficient time for withholding agents to be informed 
about the change in withholding rates. If for some reason a 
withholding agent withholds at a higher rate than that provided 
by the Convention (perhaps because it was not able to re-
program its computers before the payment is made), a beneficial 
owner of the income that is a resident of the other Contracting 
State may make a claim for refund pursuant to section 1464 of 
the Code.
    For all other taxes, paragraph 2(b) specifies that the 
Convention will have effect for any taxable period beginning on 
or after January 1 of the year following entry into force.
Paragraph 3
    As discussed under Article 26 (Exchange of Information), 
the powers afforded the competent authority under that article 
apply from the date of entry into force of the Convention, 
regardless of the taxable period to which the matter relates.

                        ARTICLE 29 (TERMINATION)

    The Convention is to remain in effect indefinitely, unless 
terminated by one of the Contracting States in accordance with 
the provisions of Article 29. The Convention may be terminated 
at any time after the year in which the Convention enters into 
force. If notice of termination is given, the provisions of the 
Convention with respect to withholding at source will cease to 
have effect after the expiration of a period of 6 months 
beginning with the delivery of notice of termination. For other 
taxes, the Convention will cease to have effect as of taxable 
periods beginning after the expiration of this 6 month period.
    Article 29 relates only to unilateral termination of the 
Convention by a Contracting State. Nothing in that Article 
should be construed as preventing the Contracting States from 
concluding a new bilateral agreement, subject to ratification, 
that supersedes, amends or terminates provisions of the 
Convention without the six-month notification period.
    Customary international law observed by the United States 
and other countries, as reflected in the Vienna Convention on 
Treaties, allows termination by one Contracting State at any 
time in the event of a ``material breach'' of the agreement by 
the other Contracting State.
       X. Annex II--Transcript of Hearing held November 10, 2009

      
      



                                TREATIES

                              ----------                              


                       TUESDAY, NOVEMBER 10, 2009

                                       U.S. Senate,
                            Committee on Foreign Relations,
                                                    Washington, DC.
    The committee met, pursuant to notice, at 9 a.m., in room 
SD-419, Dirksen Senate Office Building, Hon. Edward E. Kaufman, 
presiding.
    Present: Senator Kaufman.

          OPENING STATEMENT OF HON. EDWARD E. KAUFMAN,
                   U.S. SENATOR FROM DELAWARE

    Senator Kaufman. I'll say it again, good morning.
    Voices. Good morning.
    Senator Kaufman. Today the committee will take up five 
treaties: two protocols that amend our existing tax treaties 
with France and New Zealand, a new tax treaty with Malta, a 
bilateral investment treaty with Rwanda, and an international 
convention on plant genetic resources for food and agriculture.
    The France and New Zealand tax protocols reflect our 
ongoing efforts to modernize existing tax treaties to conform 
to current United States policy. In addition to reducing or 
eliminating source-country taxation on certain dividends and 
royalties, both protocols update the existing antiabuse and 
information exchange provisions enforced with France and New 
Zealand.
    These changes will help guard against nonresidents 
improperly benefiting from the treaties, and will facilitate 
the exchange of tax information, which will assist in detecting 
tax evasion.
    The France protocol also provides for mandatory 
arbitration, similar in many respects to recent treaties with 
Canada, Germany, and Belgium.
    The proposed tax treaty with Malta recognizes the 
significant changes that Malta has made to its domestic tax law 
in response to United States concerns that led to the 
termination of our original tax agreement with Malta in 1997. 
This proposed convention, like the protocols, generally follows 
the 2006 U.S. Model Tax Treaty; however, it deviates from the 
model in certain areas, including where deemed necessary to 
provide enhanced protection against treaty-shopping.
    I would note that critical stakeholders, such as the U.S. 
Chamber of Commerce, the National Association of Manufacturers, 
the National Foreign Trade Council, are all on record in strong 
support of early ratification of the three tax treaties before 
us today.
    Moving from tax policy to investment policy, the United 
States-Rwanda Bilateral Investment Treaty is the first such 
agreement concluded between the United States and a sub-Saharan 
African country since 1998. Our negotiators engaged Rwanda in 
this endeavor in recognition of the Rwanda Government's efforts 
to open its economy, improve its business climate, and embrace 
trade and investment as a means to boost economic development 
and alleviate poverty.
    In 2008 and 2009, less than two decades after the genocide 
from which Rwanda still strives to recover, Rwanda led the 
world in the World Bank's review of doing business reforms, a 
first for a sub-Saharan economy. We anticipate that the Rwanda 
BIT will reinforce the government's economic reform program and 
facilitate continued progress in the rebuilding and recovery 
that has taken place since the 1994 genocide. We would also 
hope to see similar openness in the expansion of political 
space in Rwanda.
    Last, by joining the International Plant Genetic Resources 
Treaty, the United States will ensure we continue to play a 
leading role in the conservation of critical plant resources 
for future generations. Recent experience with dramatic price 
increases and global food scarcity demonstrate the need to 
preserve and enhance access to these resources. By joining this 
convention, the United States will secure access to valuable 
plant genetic resources and information from other countries, a 
service which the Department of Agriculture is already 
authorized to provide at no cost. This treaty enjoys support 
from a broad range of stakeholders, including the American Sea 
Trade Association, the Biotechnology Industry Organization, 
Intellectual Property Owners Association, and the National 
Farms Unit.
    We are fortunate to have four--and I really mean that--four 
excellent witnesses today: Kerri-Ann Jones, the Assistant 
Secretary of State for the Bureau of Oceans and International 
Environmental and Scientific Affairs; Manal Corwin, 
international tax counsel for the Treasury Department; Wes 
Scholz, the Director of the Office of Investment Affairs at the 
State Department; and Thomas Barthold, chief of staff of the 
Joint Committee on Taxation. We will start with tax treaties, 
so I'll turn first to Ms. Corwin and next to Mr. Barthold; 
after that, we'll take up Rwanda, BIT, and the Plant Genetics 
Treaty.
    Ms. Corwin.

     STATEMENT OF MANAL CORWIN, INTERNATIONAL TAX COUNSEL, 
                     DEPARTMENT OF TREASURY

    Ms. Corwin. Thank you, Senator Kaufman. I appreciate the 
opportunity to appear today to recommend, on behalf of the 
administration, favorable action on three tax treaties pending 
before this committee. We appreciate the committee's interest 
in these treaties and in the U.S. tax treaty program overall.
    This administration is committed to eliminating barriers to 
cross-border trade and investment and preventing offshore tax 
evasion. Tax treaties play a vital role in supporting both of 
these objectives. Tax treaties facilitate cross-border 
investment and provide greater certainty to taxpayers regarding 
their potential tax liability in foreign jurisdictions. They do 
so by allocating taxing rights between jurisdictions, 
minimizing incidences of double taxation, and ensuring that 
U.S. taxpayers are not subject to discriminatory treatment.
    Tax treaties also play an important role in preventing tax 
evasion. A key element of U.S. tax treaties is exchange of 
information between tax authorities. Because access to 
information from other countries is critically important to the 
full and fair enforcement of U.S. tax laws, information 
exchange is a top priority for the United States tax treaty 
program.
    The treaties before the committee today--with France, 
Malta, and New Zealand--serve to further our tax treaty program 
goals of facilitating cross-border trade and investment and 
preventing fiscal evasion. We urge the committee and the Senate 
to take prompt and favorable action on these agreements, which 
I will now describe very briefly.
    The proposed protocol with France is the second protocol 
amending the current tax convention with France signed in 1994. 
The most significant provisions in this agreement relate to the 
taxation of dividends and royalties, the adoption of mandatory 
arbitration to facilitate the resolution of disputes between 
the United States and French revenue authorities, and 
provisions to prevent treaty abuse and provide for full 
exchange of information for tax purposes.
    More specifically, the proposed protocol eliminates the 
source country withholding tax on certain intercompany 
dividends and on all royalty payments. The proposed protocol 
also makes a number of changes to the limitation on benefits 
article of the current convention, which is designed to protect 
against abuses of the treaty by third-country residents.
    Finally, the proposed protocol provides for mandatory 
binding arbitration of certain cases that have not been 
resolved by the competent authorities within a specified 
period. The mandatory binding arbitration provision included in 
the protocol with France is similar to provisions in our 
current treaties with Canada, Germany, and Belgium, which this 
committee and the Senate approved over the last 3 years. 
However, in recognition of the helpful comments offered by this 
committee with respect to the arbitration provisions in the 
prior agreements, the arbitration provision in the French 
protocol differs from the prior provisions in three key 
respects.
    First, the proposed arbitration rule with France permits 
the taxpayers whose tax liabilities are affected by the 
arbitration proceeding to submit a position paper directly to 
the arbitration panel.
    Second, the proposed rule prohibits employees of the tax 
administrations of either the United States or France from 
being appointed as members to the arbitration panel.
    Finally, the proposed rule does not establish a hierarchy 
of legal authorities for treaty interpretation.
    We are hopeful that these three modifications adequately 
address the concerns previously raised by this committee. We 
look forward to continuing to work with this committee to make 
arbitration an effective tool in promoting fair and expeditious 
resolution of tax treaty disputes.
    The proposed income tax convention with Malta reestablishes 
a prior tax treaty relationship between Malta and the United 
States. In 1996, the United States terminated its tax treaty 
with Malta, originally signed in 1980, because of concerns 
related to abuses of the treaty by third-country residents and 
inadequate exchange of information. Since 1996, Malta has made 
important changes to its domestic law in order to make a treaty 
possible again. Most notably, Malta repealed its bank secrecy 
rules so that it could agree to a ``full exchange of 
information'' provision in the proposed treaty.
    The proposed convention with Malta is generally consistent 
with the current U.S. Model Income Tax Treaty. To take into 
account special features of Malta's domestic law, however, the 
proposed treaty contains robust rules to prevent so-called 
``treaty shopping.'' In particular, the proposed treaty 
includes a strict and comprehensive ``limitation on benefits'' 
article and provides for a positive withholding tax rate on 
dividends, royalties, and interest.
    Finally, the proposed convention provides for the full 
exchange of information.
    The proposed protocol with New Zealand is the first 
protocol amending our current tax treaty, which entered into 
force in 1983. The proposed protocol makes a number of changes 
to the current convention, including eliminating the source-
country withholding tax on certain dividends and on all 
royalties. The proposed protocol also updates the ``limitation 
on benefits'' article, bringing into line with the U.S. Model 
Treaty.
    Let me conclude by thanking you for the opportunity to 
appear before the committee to discuss the administration's 
efforts with respect to the three agreements under 
consideration. We thank the committee members and staff for 
devoting time and attention to the review of these agreements, 
and we are grateful for the assistance and cooperation of the 
staff of the Joint Committee on Taxation. I also would like to 
acknowledge and express my appreciation for the work done on 
the proposed treaties by the teams at Treasury, the Internal 
Revenue Service, and the State Department.
    On behalf of the administration, we urge the committee and 
the Senate to take prompt and favorable action on the 
agreements before you today. And I'm happy to respond to any 
questions you may have.
    [The prepared statement of Ms. Corwin follows:]

    Prepared Statement of Manal Corwin, International Tax Counsel, 
                 Department of Treasury, Washington, DC

    Chairman Kerry, Ranking Member Lugar, and distinguished members of 
the committee, I appreciate the opportunity to appear today to 
recommend, on behalf of the administration, favorable action on three 
tax treaties pending before this committee. We appreciate the 
committee's interest in these treaties and in the U.S. tax treaty 
network overall.
    This administration is committed to eliminating barriers to cross-
border trade and investment, and tax treaties are the primary means for 
eliminating tax barriers to such trade and investment. Tax treaties 
provide greater certainty to taxpayers regarding their potential 
liability to tax in foreign jurisdictions; they allocate taxing rights 
between the two jurisdictions and include other provisions that reduce 
the risk of double taxation, including provisions that reduce gross-
basis withholding taxes. Tax treaties also ensure that taxpayers are 
not subject to discriminatory taxation in the foreign jurisdiction.
    This administration is also committed to preventing tax evasion, 
and our tax treaties play an important role in this area as well. A key 
element of U.S. tax treaties is exchange of information between tax 
authorities. Under tax treaties, one country may request from the other 
such information as may be relevant for the proper administration of 
the first country's tax laws. Because access to information from other 
countries is critically important to the full and fair enforcement of 
U.S. tax laws, information exchange is a top priority for the United 
States in its tax treaty program.
    A tax treaty reflects a balance of benefits that is agreed to when 
the treaty is negotiated. In some cases, changes in law or policy in 
one or both of the treaty partners make the partners more willing to 
increase the benefits beyond those provided by the original treaty; in 
these cases, negotiation of a revised treaty may be very beneficial. In 
other cases, developments in one or both countries, or international 
developments more generally, may make it desirable to revisit a treaty 
to prevent exploitation of treaty provisions and eliminate unintended 
and inappropriate consequences in the application of the treaty; in 
these cases, it may be expedient to modify the agreement. Both in 
setting our overall negotiation priorities and in negotiating 
individual treaties, our focus is on ensuring that our tax treaty 
network fulfills its goals of facilitating cross-border trade and 
investment and preventing fiscal evasion.
    The treaties before the committee today with France, Malta, and New 
Zealand serve to further the goals of our tax treaty network. The 
treaties with France and New Zealand would modify existing tax treaty 
relationships, to increase benefits in some instances and to eliminate 
inappropriate benefits in others. The tax treaty with Malta would 
reestablish a tax treaty relationship between our two countries that 
was interrupted when the United States terminated a prior tax treaty 
with Malta signed in 1980. We urge the committee and the Senate to take 
prompt and favorable action on all of these agreements.
    Before talking about the pending treaties in more detail, I would 
like to discuss some more general tax treaty matters.

                 PURPOSES AND BENEFITS OF TAX TREATIES

    Tax treaties set out clear ground rules that govern tax matters 
relating to trade and investment between the two countries.
    One of the primary functions of tax treaties is to provide 
certainty to taxpayers regarding the threshold question with respect to 
international taxation: whether a taxpayer's cross-border activities 
will subject it to taxation by two or more countries. Tax treaties 
answer this question by establishing the minimum level of economic 
activity that must be engaged in within a country by a resident of the 
other before the first country may tax any resulting business profits. 
In general terms, tax treaties provide that if branch operations in a 
foreign country have sufficient substance and continuity, the country 
where those activities occur will have primary (but not exclusive) 
jurisdiction to tax. In other cases, where the operations in the 
foreign country are relatively minor, the home country retains the sole 
jurisdiction to tax.
    Another primary function is relief of double taxation. Tax treaties 
protect taxpayers from potential double taxation primarily through the 
allocation of taxing rights between the two countries. This allocation 
takes several forms. First, the treaty has a mechanism for resolving 
the issue of residence in the case of a taxpayer that otherwise would 
be considered to be a resident of both countries. Second, with respect 
to each category of income, the treaty assigns primary taxing rights to 
one country, usually (but not always) the country in which the income 
arises (the ``source'' country), and the residual right to tax to the 
other country, usually (but not always) the country of residence of the 
taxpayer (the ``residence'' country). Third, the treaty provides rules 
for determining the country of source for each category of income. 
Finally, the treaty establishes the obligation of the residence country 
to eliminate double taxation that otherwise would arise from the 
exercise of concurrent taxing jurisdiction by the two countries.
    In addition to reducing potential double taxation, tax treaties 
also reduce potential ``excessive'' taxation by reducing withholding 
taxes that are imposed at source. Under U.S. law, payments to non-U.S. 
persons of dividends and royalties as well as certain payments of 
interest are subject to withholding tax equal to 30 percent of the 
gross amount paid. Most of our trading partners impose similar levels 
of withholding tax on these types of income. This tax is imposed on a 
gross, rather than net, amount. Because the withholding tax does not 
take into account expenses incurred in generating the income, the 
taxpayer that bears the burden of withholding tax frequently will be 
subject to an effective rate of tax that is significantly higher than 
the tax rate that would be applicable to net income in either the 
source or residence country. The taxpayer may be viewed, therefore, as 
suffering excessive taxation. Tax treaties alleviate this burden by 
setting maximum levels for the withholding tax that the treaty partners 
may impose on these types of income or by providing for exclusive 
residence-country taxation of such income through the elimination of 
source-country withholding tax. Because of the excessive taxation that 
withholding taxes can represent, the United States seeks to include in 
tax treaties provisions that substantially reduce or eliminate source-
country withholding taxes.
    As a complement to these substantive rules regarding allocation of 
taxing rights, tax treaties provide a mechanism for dealing with 
disputes between the countries regarding the treaties, including 
questions regarding the proper application of the treaties that arise 
after the treaty enters into force. To resolve disputes, designated tax 
authorities of the two governments--known as the ``competent 
authorities'' in tax treaty parlance--are to consult and to endeavor to 
reach agreement. Under many such agreements, the competent authorities 
agree to allocate a taxpayer's income between the two taxing 
jurisdictions on a consistent basis, thereby preventing the double 
taxation that might otherwise result. The U.S. competent authority 
under our tax treaties is the Secretary of the Treasury or his 
delegate. That function has been delegated to the Deputy Commissioner 
(International) of the Large and Mid-Size Business Division of the 
Internal Revenue Service.
    Tax treaties also include provisions intended to ensure that cross-
border investors do not suffer discrimination in the application of the 
tax laws of the other country. This is similar to a basic investor 
protection provided in other types of agreements, but the 
nondiscrimination provisions of tax treaties are specifically tailored 
to tax matters and, therefore, are the most effective means of 
addressing potential discrimination in the tax context. The relevant 
tax treaty provisions explicitly prohibit types of discriminatory 
measures that once were common in some tax systems. At the same time, 
tax treaties clarify the manner in which possible discrimination is to 
be tested in the tax context.
    In addition to these core provisions, tax treaties include 
provisions dealing with more specialized situations, such as rules 
coordinating the pension rules of the tax systems of the two countries 
or addressing the treatment of Social Security benefits and alimony and 
child-support payments in the cross-border context (the Social Security 
Administration separately negotiates and administers bilateral 
totalization agreements). These provisions are becoming increasingly 
important as more individuals move between countries or otherwise are 
engaged in cross-border activities. While these matters may not involve 
substantial tax revenue from the perspective of the two governments, 
rules providing clear and appropriate treatment are very important to 
the affected taxpayers.
    Tax treaties also include provisions related to tax administration. 
A key element of U.S. tax treaties is the provision addressing the 
exchange of information between the tax authorities. Under tax 
treaties, the competent authority of one country may request from the 
other competent authority such information as may be relevant for the 
proper administration of the first country's tax laws; the information 
provided pursuant to the request is subject to the strict 
confidentiality protections that apply to taxpayer information. Because 
access to information from other countries is critically important to 
the full and fair enforcement of the U.S. tax laws, information 
exchange is a priority for the United States in its tax treaty program. 
If a country has bank secrecy rules that would operate to prevent or 
seriously inhibit the appropriate exchange of information under a tax 
treaty, we will not enter into a new tax treaty relationship with that 
country. Indeed, the need for appropriate information exchange 
provisions is one of the treaty matters that we consider nonnegotiable.

             TAX TREATY NEGOTIATING PRIORITIES AND PROCESS

    The United States has a network of 59 income tax treaties covering 
67 countries. This network covers the vast majority of foreign trade 
and investment of U.S. businesses and investors. In establishing our 
negotiating priorities, our primary objective is the conclusion of tax 
treaties that will provide the greatest benefit to the United States 
and to U.S. taxpayers. We communicate regularly with the U.S. business 
community and the Internal Revenue Service, seeking their input 
regarding the areas in which treaty network expansion and improvement 
efforts should be focused and seeking information regarding practical 
problems encountered under particular treaties and particular tax 
regimes.
    The primary constraint on the size of our tax treaty network may be 
the complexity of the negotiations themselves. Ensuring that the 
various functions to be performed by tax treaties are all properly 
taken into account makes the negotiation process exacting and time 
consuming.
    Numerous features of a country's particular tax legislation and its 
interaction with U.S. domestic tax rules are considered in negotiating 
a tax treaty. Examples include whether the country eliminates double 
taxation through an exemption system or a credit system, the country's 
treatment of partnerships and other transparent entities, and how the 
country taxes contributions to pension funds, earnings of the funds, 
and distributions from the funds.
    Moreover, a country's fundamental tax policy choices are reflected 
not only in its tax legislation but also in its tax treaty positions. 
These choices differ significantly from country to country, with 
substantial variation even across countries that seem to have quite 
similar economic profiles. A treaty negotiation must take into account 
all of these aspects of the particular treaty partner's tax system and 
treaty policies to arrive at an agreement that accomplishes the United 
States tax treaty objectives.
    Obtaining the agreement of our treaty partners on provisions of 
importance to the United States sometimes requires concessions on our 
part. Similarly, the other country sometimes must make concessions to 
obtain our agreement on matters that are critical to it. Each tax 
treaty that we present to the Senate represents not only the best deal 
that we believe can be achieved with the particular country, but also 
constitutes an agreement that we believe is in the best interests of 
the United States.
    In some situations, the right result may be no tax treaty at all. 
Prospective treaty partners must evidence a clear understanding of what 
their obligations would be under the treaty, especially those with 
respect to information exchange, and must demonstrate that they would 
be able to fulfill those obligations. Sometimes a tax treaty may not be 
appropriate because a potential treaty partner is unable to do so.
    In other cases, a tax treaty may be inappropriate because the 
potential treaty partner is not willing to agree to particular treaty 
provisions that are needed to address real tax problems that have been 
identified by U.S. businesses operating there. If the potential treaty 
partner is unwilling to provide meaningful benefits in a tax treaty, 
investors would find no relief, and accordingly there would be no merit 
to entering into such an agreement. The Treasury Department would not 
enter into a tax treaty that did not provide benefits to investors or 
which could be construed as an indication to future potential treaty 
partners that we would settle for a tax treaty with inferior terms.
    Sometimes a potential treaty partner insists on provisions the 
United States will not agree to, such as providing a U.S. tax credit 
for investment in the foreign country (so-called ``tax sparing''). With 
other countries there simply may not be the type of cross-border tax 
issues that are best resolved by treaty. For example, if a country does 
not impose significant income taxes, there is little possibility of 
double taxation of cross-border income, and an agreement that focuses 
exclusively on the exchange of tax information (so called ``tax 
information exchange agreements'' or TIEAs) may be the most appropriate 
agreement.
    A high priority for improving our overall treaty network is 
continued focus on prevention of ``treaty shopping.'' The U.S. 
commitment to including comprehensive limitation on benefits provisions 
is one of the keys to improving our overall treaty network. Our tax 
treaties are intended to provide benefits to residents of the United 
States and residents of the particular treaty partner on a reciprocal 
basis. The reductions in source-country taxes agreed to in a particular 
treaty mean that U.S. persons pay less tax to that country on income 
from their investments there and residents of that country pay less 
U.S. tax on income from their investments in the United States. Those 
reductions and benefits are not intended to flow to residents of a 
third country. If third-country residents are able to exploit one of 
our tax treaties to secure reductions in U.S. tax, such as through the 
use of an entity resident in a treaty country that merely holds passive 
U.S. assets, the benefits would flow only in one direction, as third-
country residents would enjoy U.S. tax reductions for their U.S. 
investments, but U.S. residents would not enjoy reciprocal tax 
reductions for their investments in that third country. Moreover, such 
third-country residents may be securing benefits that are not 
appropriate in the context of the interaction between their home 
country's tax systems and policies and those of the United States. This 
use of tax treaties is not consistent with the balance of the deal 
negotiated in the underlying tax treaty. Preventing this exploitation 
of our tax treaties is critical to ensuring that the third country will 
sit down at the table with us to negotiate on a reciprocal basis, so we 
can secure for U.S. persons the benefits of reductions in source-
country tax on their investments in that country.

                      CONSIDERATION OF ARBITRATION

    Tax treaties cannot facilitate cross-border investment and provide 
a more stable investment environment unless the treaty is effectively 
implemented by the tax administrations of the two countries. Under our 
tax treaties, when a U.S. taxpayer becomes concerned about 
implementation of the treaty, the taxpayer can bring the matter to the 
U.S. competent authority who will seek to resolve the matter with the 
competent authority of the treaty partner. The competent authorities 
will work cooperatively to resolve genuine disputes as to the 
appropriate application of the treaty.
    The U.S. competent authority has a good track record in resolving 
disputes. Even in the most cooperative bilateral relationships, 
however, there will be instances in which the competent authorities 
will not be able to reach a timely and satisfactory resolution. 
Moreover, as the number and complexity of cross-border transactions 
increases, so does the number and complexity of cross-border tax 
disputes. Accordingly, we have considered ways to equip the U.S. 
competent authority with additional tools to resolve disputes promptly, 
including the possible use of arbitration in the competent authority 
mutual agreement process.
    The first U.S. tax agreement that contemplated arbitration was the 
United States-Germany income tax treaty signed in 1989. Tax treaties 
with some other countries, including Mexico and the Netherlands, 
incorporate authority for establishing voluntary binding arbitration 
procedures based on the provision in the prior United States-Germany 
treaty (although, these provisions have never been implemented). 
Although we believe that the presence of these voluntary arbitration 
provisions may have provided some limited incentive to reaching mutual 
agreements, it has become clear that the ability to enter into 
voluntary arbitration does not always provide sufficient incentive to 
resolve problem cases in a timely fashion.
    Over the past few years, we have carefully considered and studied 
various types of mandatory arbitration procedures that could be used as 
part of the competent authority mutual agreement process. In 
particular, we examined the experience of countries that adopted 
mandatory binding arbitration provisions with respect to tax matters. 
Many of them report that the prospect of impending mandatory 
arbitration creates a significant incentive to compromise before 
commencement of the process. Based on our review of the U.S. experience 
with arbitration in other areas of the law, the success of other 
countries with arbitration in the tax area, and the overwhelming 
support of the business community, we concluded that mandatory binding 
arbitration as the final step in the competent authority process can be 
an effective and appropriate tool to facilitate mutual agreement under 
U.S. tax treaties.
    One of the treaties before the committee, the Protocol with France, 
includes a type of mandatory arbitration provision that in general 
terms is similar to provisions in our current treaties with Canada, 
Germany, and Belgium, which this committee and the Senate have approved 
over the last 3 years.
    In the typical competent authority mutual agreement process, a U.S. 
taxpayer presents its problem to the U.S. competent authority and 
participates in formulating the position the U.S. competent authority 
will take in discussions with the treaty partner. Under the arbitration 
provision proposed in the France protocol, as in the similar provisions 
that are now part of our treaties with Canada, Germany, and Belgium, if 
the competent authorities cannot resolve the issue within 2 years, the 
competent authorities must present the issue to an arbitration board 
for resolution, unless both competent authorities agree that the case 
is not suitable for arbitration. The arbitration board must resolve the 
issue by choosing the position of one of the competent authorities. 
That position is adopted as the agreement of the competent authorities 
and is treated like any other mutual agreement (i.e., one that has been 
negotiated by the competent authorities) under the treaty.
    Because the arbitration board can only choose between the positions 
of each competent authority, the expectation is that the differences 
between the positions of the competent authorities will tend to narrow 
as the case moves closer to arbitration. In fact, if the arbitration 
provision is successful, difficult issues will be resolved without 
resort to arbitration. Thus, it is our expectation that these 
arbitration provisions will be rarely utilized, but that their presence 
will encourage the competent authorities to take approaches to their 
negotiations that result in mutually agreeable conclusions in the first 
place.
    The arbitration process proposed in the agreement with France, 
consistent with its predecessors, is mandatory and binding with respect 
to the competent authorities. However, consistent with the negotiation 
process under the mutual agreement procedure generally, the taxpayer 
can terminate the arbitration at any time by withdrawing its request 
for competent authority assistance. Moreover, the taxpayer retains the 
right to litigate the matter (in the United States or the treaty 
partner) in lieu of accepting the result of the arbitration, just as it 
would be entitled to litigate in lieu of accepting the result of a 
negotiation under the mutual agreement procedure.
    In negotiating the arbitration rule in the proposed Protocol with 
France, we took into account concerns expressed by this committee over 
certain aspects of the arbitration rules with Canada, Germany, and 
Belgium. Accordingly, the proposed arbitration rule with France differs 
from its predecessors in three key respects. First, recognizing the 
committee's instructions in its report on the Canada protocol that 
future arbitration rules should provide a mechanism for taxpayer input 
in the arbitration process, the proposed rule with France allows the 
taxpayers who presented the original case that is subjected to 
arbitration to submit a Position Paper directly to the arbitration 
panel. Second, the rule on the proposed France Protocol disallows a 
competent authority from appointing an employee from its own tax 
administration to the arbitration board. Finally, the rule in the 
proposed France Protocol does not prescribe a hierarchy of legal 
authorities that the arbitration panel will use in making its decision. 
Thus, customary international law rules on treaty interpretation will 
apply. The new protocol amending our tax treaty with Switzerland, 
signed in September 2009, also contains an arbitration rule that is 
substantially the same as the rule in the proposed France Protocol. The 
administration hopes to transmit the Switzerland protocol to the Senate 
for its advice and consent as soon as possible.
    Arbitration is a growing and developing field, and there are many 
forms of arbitration from which to choose. We intend to continue to 
study other arbitration provisions and to monitor the performance of 
the provisions in the agreements with Canada, Belgium, and Germany, as 
well as the performance of the provision in the agreement with France, 
if ratified. As requested by the Senate in its approval of the protocol 
with Canada in 2008, the Internal Revenue Service has published the 
administrative procedures necessary to implement the arbitration rules 
with Germany and Belgium, although to date no tax disputes with either 
country has been submitted to arbitration. The development of 
arbitration procedures are still under discussion with the Canadian tax 
authorities.
    We look forward to continuing to work with the committee to make 
arbitration an effective tool in promoting the fair and expeditious 
resolution of treaty disputes. The committee's comments made with 
respect to the arbitration provisions with Canada, Germany, and Belgium 
have been very helpful and will continue to inform future negotiations 
of arbitration provisions.

                    DISCUSSION OF PROPOSED TREATIES

    I now would like to discuss the three tax treaties that have been 
transmitted for the Senate's consideration. We have submitted a 
Technical Explanation of each treaty that contains detailed discussions 
of the provisions of each treaty. These Technical Explanations serve as 
the Treasury Department's official guide to each tax treaty.
France
    The proposed Protocol with France was signed in Paris on January 
13, 2009, and is the second protocol of amendment to the current tax 
Convention with France, signed in 1994. The most significant provisions 
in this agreement relate to the taxation of dividends and royalties, 
the adoption of mandatory arbitration to facilitate the resolution of 
disputes between the United States and French revenue authorities, and 
provisions to prevent treaty abuse and provide for full exchange of 
information for tax purposes. The Protocol also makes a number of 
necessary updates to the current Convention to better reflect French 
and U.S. domestic law.
    The proposed Protocol makes a number of changes to the dividend 
article of the current Convention. The proposed Protocol eliminates the 
source-country withholding tax on many intercompany dividends. In 
general, a company receiving a dividend must have a substantial 
interest in the distributing corporation for a 12-month period and meet 
special limitation on benefits provisions to qualify for the exemption 
from withholding tax. The proposed Protocol also updates the dividend 
article to incorporate policies reflected in the U.S. Model provision, 
such as those regarding regulated investment companies (RICs) and real 
estate investment trusts (REITs).
    The proposed Protocol makes a significant change to the royalty 
article of the current Convention. The current Convention allows the 
source country to withhold on royalty payments to residents of the 
other treaty partner with respect to certain types of property, but 
limits the withholding rate to a maximum of 5 percent. The proposed 
Protocol eliminates source-country withholding on all royalty payments, 
bringing the Convention in line with the U.S. Model treaty.
    The proposed Protocol makes a number of changes to the limitation 
on benefits article of the current Convention. It tightens the 
limitation on benefits rules applicable to publicly traded companies to 
ensure a closer nexus between the company and its residence country 
through regional trading of its shares or local management and control. 
The proposed Protocol further tightens the limitation on benefits 
provision by including a so-called ``triangular provision'' adopted in 
many U.S. tax treaties. The rule is designed to prevent the use of 
structures including third-country branches to avoid both source- and 
residence-country taxation. Under the provision, the United States 
needs not allow full treaty benefits to a French enterprise with 
respect to certain income attributable to a permanent establishment of 
the French enterprise located in a third country if the income is not 
subject to a sufficient combined level of tax in both France and the 
third country.
    The proposed Protocol updates the provision in the current 
Convention that preserves the U.S. right to tax certain former citizens 
also to cover certain former long-term residents to reflect changes in 
U.S. law.
    As previously noted, the proposed Protocol provides for mandatory 
arbitration of certain cases that have not been resolved by the 
competent authority within a specified period, generally 2 years from 
the commencement of the case. A Memorandum of Understanding 
accompanying the Protocol sets forth rules and procedures for 
arbitration. The arbitration board must deliver a determination within 
6 months of the appointment of the chair of the arbitration board, and 
the determination must either be the proposed resolution submitted by 
the United States or the proposed resolution submitted by France. The 
board's determination has no precedential value and that the board 
shall not provide a rationale for its determination. As mentioned 
above, in response to concerns expressed by the Senate in the approval 
of prior agreements, the arbitration rule in the proposed Protocol 
differs from earlier arbitration provisions in some key respects. 
First, the proposed Protocol permits the concerned taxpayers to summit 
written Position Papers to the arbitration board. Second, under the 
proposed Protocol, the competent authority of a Contracting State may 
not appoint an employee of its tax administration to be a member of the 
arbitration board. Finally, the proposed protocol does not prescribe a 
hierarchy of legal authorities to which the arbitration board must 
adhere.
    The proposed Protocol provides that the United States and France 
shall notify each other in writing, through diplomatic channels, when 
their respective constitutional and statutory requirements for entry 
into force of the proposed Protocol have been satisfied. The proposed 
Protocol will enter into force upon the date of receipt of the later of 
such notifications. For taxes withheld at source, it will have effect 
for amounts paid or credited on or after the first day of the January 
of the year in which the proposed Protocol enters into force. With 
respect to other taxes, the proposed Protocol will generally have 
effect for taxable years that begin on or after the first day of 
January next following the date on which the proposed Protocol enters 
into force.
Malta
    The proposed income tax Convention and accompanying exchange of 
notes with Malta signed in Valletta on August 8, 2008, reestablishes a 
previous tax treaty relationship between Malta and the United States. 
The proposed Convention is generally consistent with the current U.S. 
Model income tax treaty and with treaties that the United States has 
with other countries, while incorporating special rules to take into 
account special features of Malta's domestic tax law.
    Under the proposed Convention, the United States may impose 
withholding taxes on cross-border portfolio dividend payments at a 
maximum rate of 15 percent. When the beneficial owner of the dividend 
is a company that directly owns at least 10 percent of the stock of the 
company paying the dividend, the United States may impose withholding 
tax at a maximum rate of 5 percent. The proposed Convention also 
incorporates rules provided in the U.S. Model tax treaty for certain 
classes of investment income. For example, dividends paid by RICs and 
REITs are subject to special rules to prevent the use of these entities 
to transform what is otherwise higher taxed income into lower taxed 
income.
    The proposed Convention generally limits withholding taxes on 
cross-border interest and royalty payments to a maximum rate of 10 
percent. The interest article of the proposed Convention also contains 
the U.S. Model rules regarding contingent interest and REMICs.
    The proposed Convention limits the taxation by one country of the 
business profits of a resident of the other country. The source 
country's right to tax such profits is generally limited to cases in 
which the profits are attributable to a permanent establishment located 
in that country.
    Consistent with current U.S. tax treaty policy, the proposed 
Convention includes a comprehensive limitation on benefits article, 
which takes into account unique features of Malta's tax system and is 
designed to deny treaty shoppers the benefits of the Convention. The 
proposed Convention provides for nondiscriminatory treatment by one 
country to residents and nationals of the other country. In addition, 
the proposed Convention provides for the full exchange between the tax 
authorities of each country of information relevant to carrying out the 
provisions of the agreement or the domestic tax laws of either country. 
This will facilitate the enforcement of U.S. domestic tax rules. The 
proposed Convention provides that information exchanged pursuant to the 
Convention may, with the written consent of the country providing the 
information, be used for certain nontax purposes as permitted under the 
provisions of an existing mutual legal assistance treaty between the 
two countries that allows for the exchange of tax information.
    The proposed Convention provides that the United States and Malta 
shall exchange instruments of ratification when their respective 
applicable procedures for approval of the proposed Convention. The 
proposed Convention will enter into force upon the exchange of 
instruments of ratification. It will have effect, with respect to taxes 
withheld at source, for amounts paid or credited on or after the first 
day of the second month next following the date on which the proposed 
Convention enters into force and, with respect to other taxes, for 
taxable years beginning on or after the first day of January in the 
year following the date upon which the proposed Convention enters into 
force.
New Zealand
    The proposed Protocol with New Zealand was signed in Washington on 
December 1, 2008, and amends the current tax Convention with New 
Zealand, which entered into force in 1983. The most significant 
provisions in this agreement relate to dividends, interest, royalties, 
taxation of income from personal services, antiabuse provisions, and 
exchange of information for tax purposes. The proposed Protocol deletes 
the current Convention's denial of treaty benefits to certain 
categories of U.S. citizens. The Protocol also makes a number of 
necessary updates to the current Convention to better reflect New 
Zealand and U.S. domestic law.
    The proposed Protocol makes a number of changes to the dividend 
article of the current Convention. The proposed Protocol eliminates the 
source-country withholding tax on many intercompany dividends. In 
general, a company receiving a dividend must have a substantial 
interest in the distributing corporation for a 12-month period and meet 
special limitation on benefits provisions to qualify for the exemption 
from withholding tax. The proposed Protocol also updates the dividend 
article to incorporate policies reflected in the U.S. Model provision, 
such as those regarding dividends paid by RICs and REITs.
    The proposed Protocol amends the interest article of the current 
Convention. The current Convention allows the source country to 
withhold on interest payments to unrelated banks and certain financial 
enterprises at a maximum of 10 percent. The proposed Protocol 
eliminates source-country withholding on these payments, provided, in 
the case of New Zealand, that the payer of the interest has paid New 
Zealand's ``approved issuer levy'' with respect to the interest. 
Moreover, the proposed Protocol secures the elimination of taxation by 
New Zealand on interest payments to unrelated U.S. banks and financial 
enterprises even if New Zealand changes the approved issuer levy regime 
in the future.
    The proposed Protocol makes significant changes to the royalty 
article of the current Convention. The current Convention allows the 
source country to withhold on royalty payments with respect to certain 
types of property to residents of the other treaty partner, but limits 
the withholding rate to a maximum of 10 percent. The proposed Protocol 
lowers that maximum withholding rate on royalties to 5 percent. 
Additionally, the proposed Protocol amends current Convention's 
definition royalties by excluding from the definition payments for the 
rental of equipment and other, tangible personal property.
    As a result, these rental payments will be subject to the same tax 
treatment as business income. These changes will bring the current tax 
Convention into closer alignment with U.S. Model tax treaty policy.
    The proposed Protocol makes important changes to the taxation of 
individuals providing personal services. Under the current Convention, 
income from independent personal services (such as accounting, legal or 
consultancy services) may be taxed by the country in which the services 
are performed if the individual providing the services is present in 
that country for a period of 183 days or more. The proposed Protocol 
replaces this taxing right based on days of presence with the U.S. 
Model approach, which allows the country where the services are 
performed to tax the income only if the service provider has a fixed 
place of business in that country.
    The proposed Protocol makes changes to the scope of benefits of the 
current Convention available to U.S. citizens. Under the current 
Convention, treaty benefits are only available to U.S. citizens who are 
also resident in the United States. The proposed Protocol eliminates 
the residency requirement and makes all U.S. citizens, wherever 
resident, eligible for treaty benefits. This broader application, which 
is consistent with the U.S. Model tax treaty, is appropriate policy, 
because all U.S. citizens are subject to tax by the United States on 
their worldwide income (and thus deserving of the benefits of U.S. tax 
treaties) regardless of their place of residence.
    The proposed Protocol replaces the limitation on benefits article 
of the current Convention with a provision that closely tracks the U.S. 
Model rule. It tightens the limitation on benefits rules applicable to 
publicly traded companies to ensure a closer nexus between the company 
and its residence country through trading of its shares on a local 
stock exchange or through local management and control. The proposed 
Protocol further tightens the limitation on benefits provision by 
including a so-called ``triangular provision'' adopted in many U.S. 
treaties. The rule is designed to prevent the use of structures 
including third-country branches to avoid both source- and residence-
country taxation. Under the provision, the United States need not allow 
full treaty benefits to a New Zealand enterprise with respect to 
certain income attributable to a permanent establishment of the New 
Zealand enterprise located in a third country if the income is not 
subject to a sufficient combined level of tax in both New Zealand and 
the third country.
    The proposed Protocol includes other antiabuse rules. It extends 
the provision in the current Convention that preserves the U.S. right 
to tax certain former citizens also to cover certain former long-term 
residents, and updates the provision to reflect changes in U.S. law. 
The proposed Protocol conforms the interest article in the current 
Convention to the U.S. Model treaty by including special contingent 
interest and real estate mortgage investment--conduit exceptions to the 
elimination of withholding tax on interest payments.
    The proposed Protocol includes several other important 
administrative and technical amendments. Significantly, it updates the 
exchange of information provisions to specify the obligation to obtain 
and provide information held by financial institutions, and to 
otherwise reflect U.S. Model standards in this area.
    The proposed Protocol provides that the United States and New 
Zealand shall notify each other in writing, through diplomatic 
channels, when their respective applicable procedures for ratification 
have been satisfied. The proposed Protocol will enter into force upon 
the date of the later of the required notifications. For taxes withheld 
at source, the proposed Protocol will have effect on the first day of 
the second month following the date of entry into force. With respect 
to other taxes, the Protocol will have effect in the United States for 
taxable periods starting on or after the first day of the January next 
following the date of entry into force. In New Zealand, the proposed 
Protocol will have effect with respect to other taxes for taxable 
periods beginning on or after the first day of April next following the 
date of entry into force.

                       TREATY PROGRAM PRIORITIES

    A key continuing priority for the Treasury Department is updating 
the few remaining U.S. tax treaties that provide for significant 
withholding tax reductions but do not include the limitation on 
benefits provisions needed to protect against the possibility of treaty 
shopping. I am pleased to report that in this regard we have made 
significant progress. Most notably, in June 2009 we announced the 
conclusion of the negotiation of a new tax treaty with Hungary. The new 
Hungary treaty, which we hope to sign, soon will contain a 
comprehensive limitation on benefits provision that will ensure that 
only residents of the United States and Hungary will enjoy the benefits 
of the treaty. In addition, we recently concluded our second round of 
negotiations with Poland and plan to hold additional negotiations early 
next year.
    Concluding agreements that provide for the full exchange of 
information, including information held by banks and other financial 
institutions, is another key priority of the Treasury Department. 2009 
has been a year of fundamental change in transparency, as many secrecy 
jurisdictions announced their intentions to comply with the 
international standard of full information exchange. In this changing 
environment, the Treasury has made many key achievements, including the 
conclusion of protocols of amendment to the U.S. tax treaties with 
Switzerland and Luxembourg that provide for full exchange of 
information, including bank account information. The administration 
hopes to transmit these agreements to the Senate for its consideration 
as soon as possible. Moreover, in the near future we hope to commence 
or reinvigorate tax treaty negotiations with a number of our other 
trading partners with bank secrecy rules once those countries have 
eliminated all domestic law impediments to full exchange of 
information.
    Beyond the two chief priorities of curbing treaty shopping and 
expanding exchange of information relationships, the Treasury 
Department continues to maintain a very active calendar of tax treaty 
negotiations. We have recently held formal treaty negotiations with 
Colombia and Korea, and later this month will open formal negotiations 
with Israel.

                               CONCLUSION

    Mr. Chairman and Ranking Member Lugar, let me conclude by thanking 
you for the opportunity to appear before the committee to discuss the 
administration's efforts with respect to the three agreements under 
consideration. We appreciate the committee's continuing interest in the 
tax treaty program, and we thank the members and staff for devoting 
time and attention to the review of these new agreements. We are also 
grateful for the assistance and cooperation of the staff of the Joint 
Committee on Taxation.
    On behalf of the administration, we urge the committee to take 
prompt and favorable action on the agreements before you today.

    Senator Kaufman. Thank you.
    Mr. Barthold.

    STATEMENT OF THOMAS A. BARTHOLD, CHIEF OF STAFF, JOINT 
                     COMMITTEE ON TAXATION

    Mr. Barthold. Thank you, Mr. Chairman.
    My name is Thomas A. Barthold. I'm the Chief of Staff for 
the Joint Committee on Taxation, and it's my pleasure to 
present the testimony of the staff of the Joint Committee on 
Taxation today concerning the proposed income tax treaty with 
Malta and the proposed tax protocols with France and New 
Zealand.
    The Joint Committee Staff has prepared pamphlets covering 
the proposed treaty and protocols, including detailed 
descriptions of those documents, comparisons with the United 
States Model Income Tax Treaty, and detailed discussions of 
issues raised by the proposed treaty and protocols. I've 
provided the committee with a more detailed written statement, 
and I'll try to just briefly summarize a few high points from 
that material.
    The proposed treaty and protocols generally follow the U.S. 
Model Treaty. However, there are some key differences, and I'd 
like to just briefly address three: treaty-shopping and the 
Malta treaty, about which Ms. Corwin spoke; binding arbitration 
and the French protocol, also discussed by my friend and 
colleague, Ms. Corwin; and the exchange of information provided 
under each document.
    As was noted, in 1997 the United States had terminated its 
then-existing treaty with Malta, with the Treasury citing 
concerns over potential for treaty-shopping under the old 
treaty. Treaty-shopping is facilitated by a number of factors, 
among them weak limitation on benefits provisions of a treaty 
and certain favorable domestic law taxation of dividends, 
interest, and capital-gain income.
    At that time, in the mid-1990s, the Treasury had also noted 
that Malta did not generally permit sharing of bank information 
with foreign tax authorities. Now, subsequent to joining the 
European Union, Malta has revised its law to permit sharing of 
bank information with tax authorities, and the proposed treaty 
would create a ``limitation on benefits'' provision more 
stringent than that of the U.S. model. It would also, as was 
noted, permit nonzero withholding rates on interest, dividends, 
and royalties.
    However, Malta's internal law, which was seen a decade ago 
as potentially facilitating treaty-shopping, is largely 
unchanged. And for that reason, it may be beneficial to ask the 
Treasury Department more specifically what factors led it to 
conclude that the concerns of a decade ago have been adequately 
addressed by the overall balance of the proposed treaty and the 
changes in internal law.
    The proposed French protocol includes a requirement that 
disputes that the competent authorities of the two treaty 
countries are unable to resolve through consultation be settled 
by arbitration. The arbitration method is referred to as 
``last-best-offer arbitration,'' and, as was noted, the United 
States currently has three tax treaties, those with Belgium, 
Canada, and Germany, that have similar provisions for mandatory 
arbitration. Nevertheless, this remains a unique feature of the 
U.S. income tax treaty network, and there are some differences, 
as were noted by Ms. Corwin, of the arbitration as proposed 
under the French protocol and those of the three existing 
treaties.
    By contrast with the tax treaties with Canada and Germany, 
but like that of the United States/Belgium treaty, the proposed 
protocol with France permits arbitration of any case involving 
the application of any article of the treaty, so long as the 
competent authorities have not agreed that the case is not 
suitable for arbitration. In the cases of Canada and Germany, 
mandatory arbitration is more prescribed.
    As noted by Ms. Corwin, a second and an important contrast 
with the three existing treaties is that the proposed protocol 
with France allows a taxpayer whose case is in mandatory 
arbitration to submit a position paper to the arbitration 
board. This is an important new development, and the committee 
may wish to inquire both about the scope of mandatory 
arbitration--the comparison of the four cases just noted--and 
the opportunity for taxpayer participation. More broadly, as 
arbitration was included in the French protocol, but not in the 
protocol with New Zealand, for example, the committee might 
inquire whether this is to become a standard feature of future 
United States tax treaties, or if the Treasury Department has 
particular goals in selectively choosing certain countries with 
which it negotiates such provisions.
    Also, I might note that, as the committee is aware, as a 
condition of ratifying the United States protocol with Canada 
just last year, the Senate required the Treasury Department to 
submit a report describing operation of the mandatory 
arbitration procedures under the Belgium, Canada, and Germany 
treaties. The committee may wish to consider whether it should 
require Treasury reporting to be expanded to encompass the 
arbitration proceedings that are proposed in the protocol with 
France.
    Each of the proposed treaty and the protocols include 
``exchange of information'' articles, again largely following 
the U.S. model. There is a unique feature in the Malta treaty, 
however. The proposed treaty permits the recipient of 
information exchanged under the treaty to use that information 
for purposes sanctioned by the United States/Malta treaty on 
certain aspects of mutual legal assistance in criminal matters, 
the so-called ``MLAT.''
    The inclusion of a cross-reference to the MLAT in the 
proposed treaty is unique among U.S. income tax treaties 
providing for exchange of information. The committee may wish 
to explore how this new rule will be reconciled with domestic 
restrictions on disclosure of tax return information if Malta, 
for example, were to request permission to use the information 
for nontax purposes.
    To the more general application of information exchange it 
is perhaps worth noting that automatic and specific information 
exchange, which are provided under the tax treaty and these 
protocols, may not always be useful. There are problems with 
automatic information exchange under existing U.S. tax treaties 
and the tax treaties of other countries, and these have 
included that information has not always been provided on a 
timely basis, the different treaty partners' tax reporting 
periods may differ from one another, the recipient country 
sometimes has even had difficulty translating the information 
into its own language, and then, sometimes the information is 
so voluminous as to not be beneficial to the tax authority.
    So, the committee may wish to explore with the Treasury 
whether they foresee any practical impediments to the automatic 
information exchange provided with France, Malta, and New 
Zealand and the potential ease with which any impediments could 
be removed, and the likelihood that they, in fact, would be 
removed.
    A specific problem with specific exchange of information 
has been that some treaty countries have declined to exchange 
information in response to specific requests intended to 
identify limited classes of purposes. The committee may wish to 
seek assurances, under the proposed treaty with Malta and the 
proposed protocols with France and New Zealand, that the treaty 
countries are required to exchange information in response to 
specific requests that are comparable to John Doe summonses 
under present law. This was an issue that has been in the news 
over the last half year in our dealings under the Swiss Treaty 
in the well-known UBS case.
    I think those three main points are important highlights, 
and I'll conclude my oral testimony with that.
    As always, I and my staff are happy to answer any questions 
that you or other members may have at this time or in the 
future.
    [The prepared statement of Mr. Barthold follows:]

 Prepared Statement of the Staff of the Joint Committee on Taxation\1\

    My name is Thomas A. Barthold. I am Chief of Staff of the Joint 
Committee on Taxation. It is my pleasure to present the testimony of 
the staff of the Joint Committee on Taxation today concerning the 
proposed income tax treaty with Malta and the proposed tax protocols 
with France and New Zealand.
---------------------------------------------------------------------------
    \1\This document may be cited as follows: Joint Committee on 
Taxation, Testimony of the Staff of the Joint Committee on Taxation 
Before the Senate Committee on Foreign Relations Hearing on the 
Proposed Tax Treaty with Malta and the Proposed Tax Protocols with 
France and New Zealand (JCX 0954 0909), November 10, 2009. This 
publication can also be found at http://www.jct.gov/.
---------------------------------------------------------------------------
                                OVERVIEW

    As in the past, the Joint Committee staff has prepared pamphlets 
covering the proposed treaty and protocols. The pamphlets provide 
detailed descriptions of the proposed treaty and protocols, including 
comparisons with the United States Model Income Tax Convention of 
November 15, 2006 (``U.S. Model treaty''), which reflects preferred 
U.S. tax treaty policy, and with other recent U.S. tax treaties.\2\ The 
pamphlets also provide detailed discussions of issues raised by the 
proposed treaty and protocols. We consulted with the Treasury 
Department and with the staff of your committee in analyzing the 
proposed treaty and protocols and in preparing the pamphlets.
---------------------------------------------------------------------------
    \2\Joint Committee on Taxation,`` Explanation of Proposed Income 
Tax Treaty Between the United States and Malta'' (JCX-50-09), November 
6, 2009; Joint Committee on Taxation, ``Explanation of Proposed 
Protocol to the Income Tax Treaty Between the United States and 
France'' (JCX-49-09), November 6, 2009; Joint Committee on Taxation, 
``Explanation of Proposed Protocol to the Income Tax Treaty Between the 
United States and New Zealand'' (JCX-51-09), November 6, 2009.
---------------------------------------------------------------------------
    The principal purposes of the treaty and protocols are to reduce or 
eliminate double taxation of income earned by residents of either 
country from sources within the other country and to prevent avoidance 
or evasion of the taxes of the two countries. The proposed treaty and 
protocols also are intended to promote close economic cooperation 
between the treaty countries and to eliminate possible barriers to 
trade and investment caused by overlapping taxing jurisdictions of the 
treaty countries. As in other U.S. tax treaties, these objectives 
principally are achieved through each country's agreement to limit, in 
certain specified situations, its right to tax income derived from its 
territory by residents of the other country.
    The proposed treaty with Malta would restore an income tax treaty 
relationship that the United States terminated with effect in 1997. The 
proposed protocol with France would amend an existing tax treaty that 
was signed in 1994 and that was amended by a previous protocol signed 
in 2004. The proposed protocol with New Zealand would amend an existing 
tax treaty that was signed in 1982.
    My testimony today will highlight some of the key features of the 
proposed treaty and protocols and certain issues that those agreements 
raise.

                           U.S. MODEL TREATY

    As a general matter, U.S. Model tax treaties provide a framework 
for U.S. tax treaty policy and a starting point for tax treaty 
negotiations with our treaty partners. These models provide helpful 
information to taxpayers, the Congress, and foreign governments about 
U.S. policies on tax treaty matters. The present U.S. Model treaty 
incorporates important developments in U.S. income tax treaty policy 
that had been reflected in U.S. income tax treaties signed in the years 
immediately preceding the Model's publication in 2006. Treaties that 
the United States has negotiated since 2006 in large part follow the 
U.S. Model treaty. The proposed treaty and protocols that are the 
subject of this hearing are, accordingly, generally consistent with the 
provisions found in the U.S. Model treaty. There are, however, some key 
differences from the U.S. Model treaty that I will discuss.

                         MALTA: TREATY SHOPPING

Limitation-on-benefits provisions
    Like the U.S. Model treaty, the proposed protocols with France and 
New Zealand and the proposed treaty with Malta include extensive 
limitation-on-benefits rules. Limitation-on-benefits provisions are 
intended to prevent third-country residents from benefiting 
inappropriately from a treaty that generally grants benefits only to 
residents of the two treaty countries. This practice is commonly 
referred to as ``treaty shopping.'' A company may engage in treaty 
shopping by, for example, organizing a related treaty-country resident 
company that has no substantial presence in the treaty country. The 
third-country company may arrange, among other transactions, to have 
the related treaty-country company remove, or strip, income from the 
treaty country in a manner that reduces the overall tax burden on that 
income. Limitation-on-benefits rules may prevent these and other 
transactions by requiring that an individual or a company seeking 
treaty benefits have significant connections to a treaty country as a 
condition of eligibility for benefits.
    The limitation-on-benefits rules of the proposed protocols with 
France and New Zealand are generally consistent with the rules of the 
U.S. Model treaty. The limitation-on-benefits rules of the proposed 
treaty with Malta, by contrast, depart in several significant respects 
from parallel rules of the U.S. Model treaty. These departures 
generally make the rules of the proposed treaty with Malta more 
restrictive than the U.S. Model treaty's limitation-on-benefits 
provision. For example, the departures include more restrictive tests, 
first, for determining whether a publicly traded company qualifies for 
treaty benefits and, second, for determining whether a nonpublicly 
traded company is eligible for treaty benefits based on the extent to 
which the company pays its gross income to persons who are not 
residents of either treaty country.
Withholding tax rules
    The proposed treaty with Malta also departs from the U.S. Model 
treaty in its withholding tax rules for interest, royalties, and other 
income not covered by particular articles of the treaty. The U.S. Model 
treaty provides an exemption from source-country withholding tax on 
most payments of interest, royalties, and other income to a resident of 
the other treaty country. By contrast, the proposed treaty with Malta 
permits withholding at a 10-percent rate on these payments.
    The proposed treaty with Malta is consistent with the U.S. Model 
treaty in its rules for dividend withholding tax, but these rules are 
less favorable to taxpayers than the dividend provisions of other 
recent U.S. tax treaties. Like the U.S. Model treaty, the proposed 
treaty with Malta permits imposition of source-country withholding tax 
at a 5-percent rate on dividends paid to a 10-percent-or-greater 
shareholder resident in the other treaty country and at a 15-percent 
rate on other dividends. The proposed protocol with France and many 
other recent U.S. tax treaties eliminate source-country withholding tax 
on dividends paid by an at least 80-percent-owned subsidiary to the 
parent corporation in the other treaty jurisdiction.
Malta's domestic law
    The strict limitation-on-benefits rules and the less taxpayer-
favorable withholding tax rules of the proposed treaty with Malta are 
intended to restrict treaty shopping that might otherwise be attractive 
because of features of Malta's internal tax laws. These features 
include, among others: (1) An exemption from Maltese corporate taxation 
for dividends received by a Malta corporation from certain foreign 
subsidiaries; (2) a corresponding exemption from Maltese corporate tax 
for gain from the sale of shares of these foreign subsidiaries; (3) the 
absence of Maltese withholding tax on dividend and interest payments to 
non-Maltese residents; and (4) an imputation system of corporate tax 
that has the effect of eliminating a shareholder-level tax on corporate 
profits.
Appropriateness of entering into new treaty with Malta
    The previously mentioned U.S. termination of the prior income tax 
treaty with Malta was due in part to the Treasury Department's concern 
that Malta's internal tax law might have facilitated treaty shopping. 
At the time, Malta also did not generally permit sharing of bank 
information with foreign tax authorities. Malta has since joined the 
European Union (``EU''), implemented EU directives assuring mutual 
administrative assistance and compliance with international 
transparency norms, and revised its domestic laws to allow Maltese tax 
authorities to share bank information with foreign tax authorities. By 
contrast, the Maltese internal taxation rules that might have 
facilitated treaty shopping remain largely unchanged. To prevent 
possible treaty shopping, however, the proposed treaty includes the 
strict limitation-on-benefits and withholding tax provisions described 
above.
    In light of the prior treaty history, your committee may wish to 
ask the Treasury Department about the factors that led it to conclude 
that it was now appiopriate to enter into a new income tax treaty with 
Malta. Your committee may also wish to inquire whether the provisions 
of the proposed treaty and changes to Maltese domestic law, taken 
together, assuage the concerns that led the Treasury Department to 
terminate the prior treaty.

                     FRANCE: MANDATORY ARBITRATION

    The proposed protocol with France broadly follows the U.S. Model 
treaty. The proposed protocol does, however, differ from the U.S Model 
treaty in several provisions, including its requirement that disputes 
that the competent authorities of the two treaty countries are unable 
to resolve through consultation be settled by arbitration.
    U.S. income tax treaties provide mutual agreement procedures 
authorizing the competent authorities of the treaty countries to 
cooperate to resolve disputes, clarify issues, and address cases of 
double taxation. The present tax treaty with France and other U.S. 
income tax treaties permit the competent authorities and the affected 
taxpayer to agree to voluntary arbitration of a case that the competent 
authorities cannot resolve by mutual agreement. The proposed protocol 
with France replaces this optional arbitration procedure with rules for 
mandatory arbitration of some unresolved disputes. Three U.S. tax 
treaties--those with Belgium, Canada, and Germany--now contain similar 
rules for mandatory arbitration. These rules are a departure from the 
U.S. Model treaty. The proposed treaty with Malta and the proposed 
protocol with New Zealand do not include provisions for mandatory 
arbitration of unresolved cases.
    Although the mandatory arbitration provision of the proposed 
protocol with France is similar to the corresponding provisions of the 
U.S. tax treaties with Belgium, Canada, and Germany, there are two 
significant differences. First, by contrast with the U.S. tax treaties 
with Canada and Germany, but like the United States-Belgium treaty, the 
proposed protocol with France permits arbitration of any case involving 
the application of any article of the treaty so long as the competent 
authorities have not agreed that the case is not suitable for 
arbitration. The U.S. tax treaties with Canada and Germany provide 
mandatory arbitration of cases involving the application of only 
certain treaty articles. Second, by contrast with the treaties with 
Belgium, Canada, and Germany, the proposed protocol with France allows 
a taxpayer whose case is in mandatory arbitration to submit a position 
paper to the arbitration board. Your committee may wish to inquire 
about both the scope of mandatory arbitration and the opportunity for 
taxpayer participation.
    More broadly, your committee may wish to ask about the Treasury 
Department's intentions for future U.S. income tax treaties and 
protocols. Does the Treasury Department expect that mandatory 
arbitration provisions following the proposed protocol and the treaties 
with Belgium, Canada, and Germany will become a standard feature of 
future U.S. tax treaties, or will the Treasury Department be selective 
in choosing the countries with which it negotiates those provisions? If 
the Treasury Department expects mandatory arbitration to become a 
standard feature in future U.S. tax treaties, will the Treasury 
Department revise the U.S. Model treaty to include mandatory 
arbitration rules? If mandatory arbitration is not expected to be a 
part of all or most future U.S. income tax treaties, it may be useful 
to ask what criteria the Treasury Department will use to determine 
whether a particular treaty should include mandatory arbitration.
    Your committee also is aware that as a condition of ratifying the 
U.S. protocol with Canada last year, the Senate required the Treasury 
Department to submit to the Joint Committee on Taxation and the Senate 
Finance Committee, among other information, a report describing the 
operation of the mandatory arbitration procedures of the treaties with 
Belgium, Canada, and Germany. This report must include information 
about the size and subject matter of cases before arbitration and the 
length of time of arbitration proceedings. This report must be provided 
within 60 days after a determination is reached in the 10th arbitration 
proceeding conducted under the U.S. treaty with Belgium, Canada, or 
Germany, and similar reports must be submitted annually for 5 years 
thereafter. These required reports will not include information about 
the operation of the mandatory arbitration procedures of the proposed 
protocol with France. Your committee may wish to consider wheither the 
required Treasury reporting should be expanded to encompass arbitration 
proceedings under the proposed protocol with France.

                        EXCHANGE OF INFORMATION

    The U.S. Model treaty and U.S. income tax treaties generally 
provide exchange of information rules requiring the competent 
authorities of the two treaty countries to exchange information that 
may be relevant for carrying out the treaties or the domestic laws of 
the treaty countries concerning all taxes imposed by a treaty country. 
The exchange of information article of the proposed protocol with New 
Zealand closely follows the information exchange rules of the U.S. 
Model treaty. The exchange of information articles of the proposed 
treaty with Malta and the proposed protocol with France largely follow 
the corresponding rules of the U.S. Model treaty but do differ in 
certain respects. The Joint Committee staff's pamphlets describe these 
differences and provide detailed overviews of the information exchange 
articles of the two proposed protocols and the proposed treaty. Here I 
wish to highlight issues related to the proposed treaty relationship 
with Malta and related to the effectiveness of information exchange 
under income tax treaties generally.
Information exchange with Malta
    As described previously, the United States terminated its prior 
income tax treaty with Malta with effect in 1997. At the time, Malta 
did not generally permit sharing of bank information with foreign tax 
authorities. Malta has since joined the European Union and implemented 
EU directives concerning transparency and legal assistance. Last year, 
Malta revised its banking law to grant Maltese tax authorities access 
to bank information for the purpose of exchanging the information with 
tax authorities of other countries under information exchange 
agreements. Malta has entered into 45 agreements that require exchange 
of information in compliance with standards set by the Organisation for 
Economic Co-operation and Development (``OECD''). Malta is now 
considered to have fully committed to the transparency standards of the 
OECD.
    To the extent that there were perceived deficiencies in the former 
information exchange relationship with Malta that contributed to the 
decision to terminate the prior treaty, and to the extent that the 
United States may have little recent practical experience in 
cooperating with Malta on tax matters, your committee may wish to seek 
reassurances that any obstacles to effective information exchange have 
been eliminated.
    The information exchange article of the proposed treaty with Malta 
includes one difference from the corresponding article of the U.S. 
Model treaty. The proposed treaty permits the recipient of information 
exchanged under the treaty to use that information for purposes 
sanctioned by the United States-Malta Treaty on Certain Aspects of 
Mutual Legal Assistance in Criminal Matters (``MLAT''). The Senate 
ratified that treaty last year, but it has not yet entered into effect. 
The extent to which this deviation from the U.S. Model treaty is 
intended to expand the scope of permitted exchange of information is 
not clear. The inclusion of a cross-reference to the MLAT in the 
proposed treaty is unique among U.S. income tax treaties, although it 
is consistent with both the OECD Convention on Mutual Assistance in Tax 
Matters (in Article 4) and the 2005 OECD Model Convention on Income and 
on Capital (in Article 26). Your committee may wish to explore how this 
new rule is to be reconciled with domestic restrictions on disclosure 
of return information if Malta requests permission to use the 
information for nontax purposes.
Effectiveness of information exchange
    The Joint Committee staff's pamphlets describe in detail several 
practical issues related to information exchange under income tax 
treaties. I will briefly note two issues here. First, automatic and 
specific information exchange under tax treaties, two of three broad 
methods of exchange of information, may not always be fully useful.\3\ 
Under automatic exchange, the parties to a tax treaty typically enter 
into a memorandum of understanding to share, on an ongoing basis, 
information that is deemed consistently relevant to the tax 
administration of the other treaty country; the treaty countries are 
not required to specifically request this information from one another. 
The United States, for example, provides to its treaty partners 
information about U.S.-source income received by residents of those 
treaty countries. Specific exchange occurs when one treaty country 
provides information to the other treaty country in response to a 
request by the latter country for information that is relevant to an 
ongoing investigation of a particular tax matter.
---------------------------------------------------------------------------
    \3\The other method of information exchange is spontaneous 
exchange. Spontaneous exchange occurs when one treaty country 
determines that information in its possession may be relevant to the 
other treaty country's tax administration and thus transmits the 
information to the other country.
---------------------------------------------------------------------------
    Problems with automatic exchange under U.S. tax treaties and the 
tax treaties of other countries have included that information has not 
been provided on a timely basis; treaty countries' tax reporting 
periods have differed from one another; the recipient country has had 
difficulty translating information into its own language; and 
information flows have been voluminous. Your committee may wish to 
inquire about whether there are any practical impediments to automatic 
information exchange with France, Malta, and New Zealand and the ease 
with which any impediments could be removed and the likelihood that 
they would be removed.
    One problem with specific exchange has been that some treaty 
countries have declined to exchange information in response to specific 
requests intended to identify limited classes of persons.\4\ Your 
committee may wish to seek assurances that, under the proposed treaty 
with Malta and the proposed protocols with France and New Zealand, 
treaty countries are required to exchange information in response to 
specific requests that are comparable to John Doe summonses under 
domestic law.\5\
---------------------------------------------------------------------------
    \4\For example, a petition to enforce a John Doe summons served by 
the United States on UBS, AG was filed on February 21, 2009, 
accompanied by an affidavit of Barry B. Shoff, the U.S. competent 
authority for the United States-Switzerland income tax treaty. 
Paragraph 16 of that affidavit notes that Switzerland had traditionally 
taken the position that a specific request must identify the taxpayer. 
See United States v. UBS AG, Civil No. 09-20423 (S.D. Fla.). On August 
19, 2009, after extensive negotiations between the Swiss and U.S. 
Governments, the United States and UBS announced that UBS had agreed to 
provide information on over 4,000 U.S. persons with accounts at UBS.
    \5\Under a John Doe summons, the U.S. Internal Revenue Service 
(``IRS'') asks for information to identify unnamed ``John Doe'' 
taxpayers. The IRS may issue a John Doe summons only with judicial 
approval, and judicial approval is given only if there is a reasonable 
basis to believe that taxes have been avoided and that the information 
sought pertains to an ascertainable group of taxpayers and is not 
otherwise available.
---------------------------------------------------------------------------
    Second, the United States has been criticized for Federal and State 
rules that may facilitate attempts by foreign persons to evade their 
home country tax laws. One criticism is that the U.S. ``know your 
customer'' rules for financial institutions may be less strict than 
other countries in their requirements for the determination of 
beneficial owners of financial accounts. A second criticism has been 
that the entity formation laws of some U.S. States make it difficult 
for government officials to ascertain the identities of owners of 
entities. Your committee may wish to ask about the extent to which it 
may be appropriate to consider policy changes to ensure that the United 
States is able to respond effectively to information requests from its 
treaty partners.

                      ARTICLE-BY-ARTICLE SUMMARIES

    The Joint Committee staff's pamphlets provide detailed article-by-
article explanations of the proposed treaty and the two proposed 
protocols. Below is a summary of significant features of each 
agreement.
Malta
    Like other U.S. tax treaties, the proposed treaty with Malta 
includes rules that limit each country's right, in specified 
situations, to tax income derived from its territory by residents of 
the other country. For example, the proposed treaty contains provisions 
under which each country generally agrees not to tax business income 
derived from sources within that country by residents of the other 
country unless the business activities in the taxing country are 
substantial enough to constitute a permanent establishment (Article 7). 
Similarly, the proposed treaty contains certain exemptions under which 
residents of one country performing personal services in the other 
country will not be required to pay tax in the other country unless 
their contact with the other country exceeds specified minimums 
(Articles 14 and 16). The proposed treaty also provides that pensions 
and other similar remuneration paid to a resident of one country may be 
taxed only by that country and only at the time and to the extent that 
a pension distribution is made (Articles 17 and 18).
    The proposed treaty provides that dividends and certain gains 
derived by a resident of either country from sources within the other 
country generally may be taxed by both countries (Articles 10 and 13); 
however, the proposed treaty limits the rate of tax that the source 
country may impose on certain dividends paid to a resident of the other 
country. As described previously, these rules are consistent with the 
corresponding provisions of the U.S. Model treaty, but they represent a 
departure from the exemption from source-country withholding tax 
provided by several recent U.S. treaties and protocols for dividends 
paid by subsidiaries to parent corporations resident in the other 
treaty countries.
    The proposed treaty's rule for Maltese taxation of Malta-source 
dividends paid to residents of the United States takes into account the 
Maltese imputation system of corporate tax. The rule provides that the 
tax that may be charged by Malta on dividends paid by a Maltese company 
to a U.S. resident is limited to the Maltese tax chargeable on the 
profits out of which the dividends are paid.
    The proposed treaty generally limits the rate of source-country tax 
that may be imposed on interest arising in one treaty country (the 
source country) and beneficially owned by a resident of the other 
treaty so that it may not exceed 10 percent of the gross amount of the 
interest (Article 11). Similarly, the proposed treaty provides that a 
royalty payment arising in a treaty country and beneficially owned by a 
resident of the other treaty country may be subject to a source country 
tax of up to 10 percent of the gross amount of the royalty (Article 
12). As described previously, these provisions differ from the 
corresponding rules of the U.S. Model treaty. The U.S. Model treaty 
provides an exemption from source-country tax for most interest and 
royalty payments beneficially owned by a resident of the other country.
    Unlike the U.S. Model treaty, the proposed treaty permits limited 
source-country taxation of income not dealt with in other articles of 
the treaty. That income may be taxed by the source country at a rate 
not greater than 10 percent (Article 21). As described previously, the 
U.S. Model treaty, by contrast, exempts this income from source-country 
taxation.
    In situations in which the country of source retains the right 
under the proposed treaty to tax income derived by residents of the 
other country, the proposed treaty generally provides for relief from 
the potential double taxation through the allowance by the country of 
residence of a tax credit for certain foreign taxes paid to the other 
country (Article 22).
    The proposed treaty contains the standard provision (the ``saving 
clause'') included in U.S. tax treaties pursuant to which each country 
retains the right to tax its residents and citizens as if the treaty 
had not come into effect (Article 1). In addition, the proposed treaty 
contains the standard provision providing that the treaty may not be 
applied to deny any taxpayer any benefits to which the taxpayer would 
be entitled under the domestic law of a country or under any other 
agreement between the two countries (Article 1).
    The proposed treaty (Article 20) generally provides that students 
and business trainees who are residents of one treaty country and who 
visit the other treaty country (the host country) are exempt from host-
country taxation on certain types of payments received from sources in 
their home country for their maintenance, education, or training.
    The proposed treaty provides authority for the two countries to 
resolve disputes (Article 25) and exchange information (Article 26) in 
order to carry out the provisions of the proposed treaty. As noted 
above, unlike the U.S. Model treaty exchange of information rules, the 
proposed treaty permits the use of tax information received under the 
tax treaty for purposes that are consistent with the scope of the MLAT 
between the United States and Malta.
    The proposed treaty also contains a detailed limitation-on-benefits 
provision to prevent the inappropriate use of the treaty by third-
country residents (Article 22). This provision generally reflects the 
anti-treaty-shopping provisions included in the U.S. Model treaty and 
more recent U.S. income tax treaties, but, as was described previously, 
is more stringent in a number of respects.
    The provisions of the proposed treaty generally take effect on or 
after the first day of January following the date that the proposed 
treaty enters into force. With respect to withholding taxes 
(principally on dividends, interest, and royalties), the provisions of 
the proposed treaty take effect for amounts paid or credited on or 
after the first day of the second month following the date on which the 
proposed treaty enters into force.
France
    The proposed protocol with France makes changes to Article 4 
(Resident) of the present treaty that in general make the rules conform 
more closely to the rules of other recent U.S. income tax treaties and 
protocols. Among other changes, the proposed protocol provides a 
special rule for French qualified partnerships and includes rules for 
fiscally transparent entities, which are entities that are not subject 
to tax at the entity level, that are similar to rules found in other 
recent U.S. income tax treaties. One difference from recent U.S. 
treaties is the addition of a requirement that, when a fiscally 
transparent entity formed or organized outside the United States or 
France derives an item of income, profit, or gain from U.S. or French 
sources, the fiscally transparent entities rules apply only if the 
country in which the entity is organized has concluded with the treaty 
country from which the income, profit, or gain is derived an agreement 
including an exchange of information provision intended to prevent tax 
evasion.
    The proposed protocol replaces Article 10 (Dividends) of the 
present treaty. The new article generally allows full residence-country 
taxation and limited source-country taxation of dividends. The proposed 
protocol retains both the generally applicable 15-percent maximum 
withholding rate and the reduced 5-percent maximum rate for dividends 
received by a company owning at least 10 percent of the dividend-paying 
company. As described previously, like several other recent treaties 
and protocols, the proposed protocol provides for a zero rate of 
withholding tax on certain dividends received by a parent company from 
a subsidiary that is at least 80-percent owned by the parent. As in the 
present treaty, special rules apply to dividends received from a 
regulated investment company, a real estate investment trust, and a 
societe d'investissement a capital variable; under the proposed 
protocol, these rules are extended to a ``societe d'investissement 
immobilier cotee'' and a ``societe de placement a preponderance 
immobiliere a capital variable.''
    Article 12 (Royalties) of the present treaty is revised to provide 
that royalties arising in a treaty country (the source country) and 
beneficially owned by a resident of the other treaty country are exempt 
from taxation in the source country. Under the present treaty, the 
source country may impose up to a 5-percent withholding tax on gross 
royalty payments.
    The proposed protocol makes conforming changes to Article 13 
(Capital Gains) to reflect revisions made to Article 12 (Royalties). It 
also updates Article 17 (Artistes and Sportsmen) to reflect the fact 
that the French currency is now the euro.
    The proposed protocol clarifies that the exclusive source-country 
tax rule of Article 18 (Pensions) for payments arising under the social 
security legislation or similar legislation of one of the treaty 
countries to a resident of the other treaty country applies, in the 
case of payments arising under France's social security legislation, to 
payments made not only to residents of the United States, but also to 
citizens of the United States who are residents of France. Accordingly, 
notwithstanding the saving clause of paragraph 2 of Article 29 
(Miscellaneous Provisions), the United States may not tax French social 
security payments made to a U.S. citizen resident in France.
    Article 22 (Other Income) of the present treaty is replaced with a 
new article that conforms to the corresponding U.S. Model treaty 
provision. The article generally assigns taxing jurisdiction over 
income not dealt with in the other articles of the treaty to the 
residence country of the beneficial owner of the income.
    The proposed protocol switches the order of two paragraphs of 
Article 24 (Relief from Double Taxation), clarifies that companies that 
are French residents may elect to be taxed on a worldwide basis subject 
to a credit in lieu of applying the general exemption system in France 
to foreign business income, and makes several conforming changes.
    The proposed protocol changes cross-references that Article 25 
(Non-Discrimination) makes to provisions of Articles 10 (Dividends) and 
12 (Royalties). These changes in cross-references reflect the proposed 
protocol's renumbering of certain paragraphs of Articles 10 and 12.
    As described previously, the proposed protocol changes the 
voluntary arbitration procedure of Article 26 (Mutual Agreement 
Procedure) of the treaty to a mandatory arbitration procedure that is 
sometimes referred to as ``last best offer'' arbitration, in which each 
of the competent authorities proposes one and only one figure for 
settlement, and the arbitrator must select one of those figures as the 
award. Under the proposed protocol, unless a taxpayer or other 
``concerned person'' (in general, a person whose tax liability is 
affected by the arbitration determination) does not accept the 
arbitration determination, it is binding on the treaty countries with 
respect to the case. A mandatory and binding arbitration procedure is 
included in the U.S. income tax treaties with Belgium, Canada, and 
Germany.
    Mutual administrative assistance is modernized under the proposed 
protocol. The proposed protocol replaces Article 27 (Exchange of 
Information) of the present treaty with rules that conform closely to 
the U.S. Model treaty. The proposed rules generally provide that the 
two competent authorities will exchange such information as may be 
relevant in carrying out the provisions of the domestic laws of the 
United States and France concerning taxes imposed at a national level, 
to the extent the taxation under those laws is not contrary to the 
treaty. The proposed protocol's information exchange article deviates 
from the U.S. Model treaty's article in its conditions under which 
entry into a treaty country's sovereign territory is permitted. The 
proposed protocol requires that a treaty country permit representatives 
of the other treaty country enter its territory to interview a taxpayer 
or to examine a taxpayer's books and records if the taxpayer has 
consented. This rule is narrower than the corresponding rules of the 
U.S. Model treaty because the proposed protocol's rule does not permit 
entry for interviewing or examining the books and records of consenting 
third parties.
    Article 28 (Assistance in Collection) of the present treaty is 
modified to remove an obsolete reference to former paragraph 4 of 
Article 10 (Dividends).
    The proposed protocol amends Article 29 (Miscellaneous Provisions) 
of the present treaty, updating the saving clause to provide that 
France may tax entities that have their place of effective management 
in France, and which are subject to tax in France, notwithstanding the 
new fiscally transparent entity provision in Article 4 (Resident). It 
also updates the definition of former citizen and long-term residents 
to conform with the changes to section 877 of the Code and makes 
conforming changes to other paragraphs in Article 29. The proposed 
protocol adds a new rule to Article 29 that payments made by French 
Government agencies to lawful permanent residents of the United States 
will be taxable only in the United States.
    As described previously, Article 30 (Limitation on Benefits) of the 
present treaty is replaced with a new article that reflects the anti-
treaty-shopping, provisions included in the U.S. Model treaty and more 
recent U.S. income tax treaties. The new rules are intended to prevent 
the indirect use of the treaty by persons who are not entitled to its 
benefits solely by reason of residence in France or the United States.
    The proposed protocol modifies Article 32 (Provisions for 
Implementation) of the present treaty to delete obsolete references to 
former paragraph 4(i) of Article 10 (Dividends) and former paragraph 8 
of Article 30 (Limitation on Benefits).
    Finally, Article XVI of the proposed protocol provides for the 
entry into force of the proposed protocol. The treaty countries will 
notify each other in writing when their respective constitutional and 
statutory requirements for entry into force of the protocol have been 
satisfied. The proposed protocol will enter into force on the date of 
receipt of the latter of such notifications. For withholding taxes, the 
proposed protocol has effect with respect to amounts paid or credited 
on or after January 1st of the calendar year in which the proposed 
protocol enters into force. For all other taxes, the proposed protocol 
has effect for taxes imposed for tax periods beginning on or after 
January 1st of the year immediately after the date on which the 
proposed protocol enters into force. With respect to the binding 
arbitration rules of Article 26 (Mutual Agreement Procedures), the 
proposed protocol is effective for cases under consideration by the 
competent authorities as of the date the proposed protocol enters into 
force and cases that come under consideration thereafter.
New Zealand
    Articles I (General Scope), II (Taxes Covered), III (General 
Definitions) and X (Independent Personal Services) of the proposed 
protocol with New Zealand generally update the provision of the present 
treaty to conform to the U.S. Model treaty.
    The proposed protocol replaces the definition of ``resident of a 
Contracting State'' in Article 4 (Residence) of the present treaty with 
one that is identical to the definition in the U.S. Model treaty. The 
proposed protocol's definition of a resident of a Contracting State 
reverses an exclusion from the definition in the present treaty for a 
person who is subject to tax in a treaty country by reason of that 
person's citizenship but who is not a resident of that country. 
Consequently, under the proposed protocol, a nonresident citizen of the 
United States may (subject to the article's other rules) be treated as 
a resident of the United States. The proposed protocol also conforms to 
the U.S. Model treaty's two tie-breaker rules for determining the 
residence of an individual who otherwise would be a resident of both 
treaty countries. Accordingly, residence under these tie-breaker rules 
is determined based on the country of which the individual is a 
national, rather than, as under the present treaty, on the individual's 
country of citizenship.
    The proposed protocol adds new paragraphs 8 and 9 to Article 7 
(Business Profits) of the present treaty. New paragraph 8, like the 
U.S. Model treaty, provides that business profits may be attributable 
to a permanent establishment (and therefore may be taxable in the 
source country) even if the payment of the income is deferred until 
after the permanent establishment has ceased to exist. New paragraph 9 
differs from the U.S. Model and OECD Model treaties, and specifically 
addresses New Zealand law relating to trusts. It provides that (1) if a 
fiscally transparent entity, or trustee, has a permanent establishment 
in one treaty country, and (2) a resident of the other treaty country 
is beneficially entitled to a share of profits from a business carried 
on by the entity or trustee through a permanent establishment in the 
first country, then the beneficial owner is treated as carrying on the 
business through the permanent establishment.
    The proposed protocol replaces Article 10 (Dividends) of the 
present treaty with a new article that generally allows full residence-
country taxation and limited source-country taxation of dividends. The 
proposed protocol retains the generally applicable maximum rate of 
withholding at source of 15 percent, but also adds a reduced 5-percent 
maximum rate for dividends received by a company owning at least 10 
percent of the voting power of dividend-paying company. Like several 
other recent treaties and protocols, the proposed protocol also 
provides for a zero rate of withholding tax on certain dividends 
received by a parent company from a subsidiary that is at least 80-
percent owned by the parent. The proposed protocol adds special rules 
that apply to dividends received from regulated investment companies 
and real estate investment trusts which are similar to provisions 
included in other recent treaties and protocols.
    The proposed protocol replaces Article 11 (Interest) of the present 
treaty with a new article that retains source-country taxation, of 
interest at a maximum withholding rate of 10 percent, but allows a 
special zero rate of withholding for certain financial institutions and 
governmental entities.
    The proposed protocol revises Article 12 (Royalties) of the present 
treaty. It provides that royalties arising in a treaty country (the 
source country) and beneficially owned by a resident of the other 
treaty country may be subject to a source country tax of up to 5 
percent. This is a reduction from the 10-percent rate provided in the 
present treaty, but any source-country taxation of royalties remains 
above the exemption provided in the U.S. Model treaty.
    The proposed protocol makes two modifications to Article 13 
(Alienation of Property). The proposed protocol makes a conforming 
change to reflect the elimination of Article 14 (Independent Personal 
Services) of the present treaty in a manner consistent with the OECD 
Model treaty. Additionally, to avoid double taxation, the proposed 
protocol updates the present treaty to allow U.S. individuals who 
expatriate to New Zealand (who are required to recognize taxable gain 
on a deemed sale of all of their property under section 877A of the 
Code) to get a step up in tax basis for New Zealand tax purposes by 
treating the property deemed sold as immediately repurchased at its 
fair market value.
    The proposed protocol replaces Article 16 (Limitation on Benefits) 
of the present treaty with a new article that reflects the anti-treaty-
shopping provisions included in the U.S. Model treaty and more recent 
U.S. income tax treaties. The new rules are intended to prevent the 
indirect use of the treaty by persons who are not entitled to its 
benefits solely by reason of residence in New Zealand or the United 
States.
    The proposed protocol makes certain conforming changes to Article 
22 (Relief from Double Taxation) of the present treaty to reflect 
changes by the proposed protocol to Article 2 (Taxes Covered). The 
proposed protocol also deletes the last sentence of paragraph 2 of 
Article 22 of the present treaty. The deleted sentence provides that 
dividends received from a U.S. company by a New Zealand company that 
owns at least 10 percent of the paid-up share capital of the U.S. 
company (being dividends that would be exempt from New Zealand tax 
under New Zealand law at the time of the signing of the present treaty) 
are exempt from New Zealand tax.
    The proposed protocol replaces the nondiscrimination rules of 
Article 23 of the present treaty with new rules that are similar to the 
nondiscrimination provisions of the U.S. Model treaty and other recent 
U.S. income tax treaties. These rules generally forbid each treaty 
country from discriminating against nationals of the other country by 
imposing on those nationals more burdensome taxes than it would impose 
on its own comparably situated nationals in the same circumstances. 
Similarly, neither treaty country may tax a permanent establishment of 
an enterprise of the other country less favorably than it taxes its own 
enterprises carrying on the same activities. The nondiscrimination 
provision does not include the U.S. Model treaty rule which provides 
that the nondiscrimination rules apply to taxes of every kind and 
description imposed by a treaty country or by a political subdivision 
or local authority of that treaty country. Accordingly, the 
nondiscrimination rules apply only to taxes covered by the present 
treaty (as modified by the proposed protocol) and not, for example, to 
U.S. State and local taxes.
    The proposed protocol does not change the provisions of Article 24 
(Mutual Agreement Procedure) of the treaty. Thus, the treaty, as 
modified by the proposed protocol, does not include a mandatory 
arbitration procedure similar to the rules of the proposed protocol 
with France and the treaties with Belgium, Canada, and Germany.
    The proposed protocol replaces Article 25 (Exchange of Information) 
of the present treaty with rules that conform closely to the U.S. Model 
treaty. The proposed rules generally provide that the two competent 
authorities will exchange such information as may be relevant in 
carrying out the provisions of the domestic laws of the United States 
and New Zealand concerning taxes imposed at a national level, to the 
extent the taxation under those laws is not contrary to the treaty, as 
modified by the proposed protocol. It provides--for the first time--for 
mutual assistance in the collection of tax debts between the United 
States and New Zealand. Such assistance is limited to tax debts that 
arise from improperly granted treaty benefits.
    The proposed protocol replaces paragraph 1 of the protocol to the 
present treaty, which was signed on the same day as the treaty. Under 
the proposed protocol, New Zealand is required to consult with the 
United States for purposes of providing the same treatment on a 
reciprocal basis if (1) it enters into a double taxation treaty with 
any country (and not just with an OECD member) and (2) that treaty 
limits the withholding tax rates on interest or royalties (but not 
dividends) to a rate lower than the one provided for in the treaty with 
the United States.
    Under the provisions of Article XVI, the proposed protocol enters 
into force on the date of the later of the notifications. The relevant 
date is the date on the second of the notification documents, and not 
the date on which the second notification is delivered to the other 
treaty country. Generally, the proposed protocol is effective on a 
prospective basis. However, the competent authority provisions under 
Article 26 (Exchange of Information) are effective retroactively to 
taxable periods preceding the entry into force of the proposed 
protocol.

                               CONCLUSION

    These provisions and issues are all discussed in more detail in the 
Joint Committee staff pamphlets on the proposed treaty and protocols.

    Senator Kaufman. Thank you.
    Mr. Scholz.

  STATEMENT OF WESLEY SCHOLZ, DIRECTOR, OFFICE OF INVESTMENT 
  AFFAIRS, BUREAU OF ECONOMIC, ENERGY, AND BUSINESS AFFAIRS, 
                      DEPARTMENT OF STATE

    Mr. Scholz. Thank you, Senator Kaufman. It's a privilege to 
be here to testify before the Senate Foreign Relations 
Committee as the administration seeks advice and consent of the 
Senate to ratification of the United States-Rwanda Bilateral 
Investment Treaty.
    Foreign investment is an important source of economic 
growth in the United States and around the globe. It improves 
productivity, provides good jobs, and spurs healthy 
competition. Foreign investment is a platform for U.S. exports. 
In 2007, 22 percent of U.S. exports of goods were shipped to 
foreign subsidiaries of U.S. firms.
    Foreign investment can also be a powerful tool for economic 
development. BITs play an important role by establishing rules 
that protect the rights of investors abroad and provide market 
access for future U.S. investment.
    Since the inception of the U.S. Bilateral Investment Treaty 
Program in the early 1980s, successive U.S. administrations 
have negotiated BITs with the objective of protecting U.S. 
investment abroad, encouraging the adoption of open, 
transparent, and nondiscriminatory investment polices, and 
supporting the development of international legal standards 
consistent with these objectives.
    The United States presently is a party to BITs with 40 
countries. Five of these treaties are with sub-Saharan African 
countries, although the BIT with Rwanda is the first such 
treaty signed by the United States with a sub-Saharan African 
country in almost a decade.
    The United States chose to negotiate a BIT with Rwanda, in 
part based on its strong economic reform program, which has 
helped to rebuild the Rwandan economy since the 1994 genocide. 
The Rwandan Government has opened its economy, improved its 
business climate, and embraced trade and investment as a means 
to boost economic development and help alleviate poverty.
    In the World Bank's Doing Business 2010 Report, Rwanda was 
the world's most improved country for its record of business-
related reforms, a first for a sub-Saharan African economy. 
Rwanda also maintains a consistent policy of attempting to 
combat corruption.
    As the result of these reforms, foreign investors are 
increasingly giving Rwanda serious consideration as a 
destination for investment. According to our Embassy, United 
States-led investment in Rwanda is poised to grow from less 
than $50 million pre-2008 to more than $600 million in 3 to 5 
years.
    These improvements could increase access to energy 
significantly for Rwandans and their regional neighbors, expand 
the number of Rwandan university-educated students from the 
thousands to the tens of thousands, and provide low-cost green 
housing for middle-income Rwandans.
    United States investment has the potential to change 
Rwanda's economic landscape and play a significant role in 
assisting Rwandan Government's efforts to become an economic 
hub for central Africa.
    The Department of State and the Office of U.S. Trade 
Representative co-led the negotiation of this treaty, with the 
participation of the Departments of Commerce and Treasury and 
other U.S. Government agencies. The treaty, which was signed on 
February 19, 2008, closely adheres to the text of the 2004 U.S. 
model. The treaty will complement Rwanda's reform efforts, help 
Rwanda attract more foreign investment that is vital to 
economic prosperity, and deepen our economic relationship with 
an important partner in Africa. It would also set a very 
positive example for others in the region.
    Looking ahead, the administration is interested in 
exploring possibilities for new U.S. BITs in Africa. On August 
5, at an event during the African Growth and Opportunity Act 
Forum in Nairobi, Secretary of State Clinton and U.S. Trade 
Representative Kirk announced that the United States would also 
start negotiations toward a Bilateral Investment Treaty with 
Mauritius. Mauritius is another partner in sub-Saharan Africa 
that has taken serious steps to enact reforms and improve its 
business climate. At that time, Secretary Clinton echoed 
President Obama's call to do more to promote investment in 
Africa and commented that the launch of negotiations with 
Mauritius is in keeping with our broader interest in engaging 
other potential partners in Africa.
    In conclusion, the administration wishes to thank the 
committee for its consideration of the treaty, and we urge you 
to report it favorably to the full Senate for action.
    I'd be happy to answer any of your questions.
    [The prepared statement of Mr. Scholz follows:]

Prepared Statement of Wesley S. Scholz, Director, Office of Investment 
              Affairs, Department of State, Washington, DC

    Mr. Chairman, thank you for the opportunity to testify before the 
Foreign Relations Committee as the administration seeks advice and 
consent of the Senate to ratification of the United States-Rwanda 
Bilateral Investment Treaty (BIT).
    Foreign investment is an important source of economic growth in the 
United States and around the globe. It improves productivity, provides 
good jobs, and spurs healthy competition. Foreign investment is a 
platform for U.S. exports. In 2007, 22 percent of U.S. goods exports 
were shipped to foreign subsidiaries of U.S. firms. Foreign investment 
can also be a powerful tool for economic development. BITs play an 
important role by establishing rules that protect the rights of U.S. 
investors abroad and provide market access for future U.S. investment. 
Since the inception of the U.S. BIT program in the early 1980s, 
successive U.S. administrations have negotiated BITs with the objective 
of protecting U.S. investment abroad, encouraging the adoption of open, 
transparent, and nondiscriminatory investment policies, and supporting 
the development of international legal standards consistent with these 
objectives. U.S. BITs build on the principles contained in earlier U.S. 
treaties of Friendship, Commerce, and Navigation. The United States 
presently is a party to BITs with 40 countries. Five of these treaties 
are with sub-Saharan African countries, although the BIT with Rwanda is 
the first such treaty signed by the United States with a sub-Saharan 
African country in almost a decade.\1\
---------------------------------------------------------------------------
    \1\The other U.S. BITs with sub-Saharan African countries are with: 
Cameroon, the Democratic Republic of Congo, Mozambique, the Republic of 
Congo, and Senegal.
---------------------------------------------------------------------------
    The United States chose to negotiate a BIT with Rwanda in part 
based on its strong economic reform program, which has helped to 
rebuild the Rwandan economy since the 1994 genocide. The Rwandan 
Government has opened its economy, improved its business climate, and 
embraced trade and investment as a means to boost economic development 
and help alleviate poverty. In 2008-2009, Rwanda was the world's most 
improved country in the World Bank's review of ``doing business'' 
reforms--a first for a sub-Saharan African country. The report cited 
Rwanda's progress in areas such as reducing the time necessary to start 
a business, making it easier to obtain credit, and providing rules to 
facilitate trade and the registration of property. Rwanda also 
maintains a consistent policy of combating corruption.
    As the result of these reforms, foreign investors are increasingly 
giving Rwanda serious consideration as a destination for investment. 
According to our Embassy, U.S.-led investment in Rwanda is poised to 
grow from less than $50 million pre-2008 to more than $600 million in 3 
to 5 years. These investments could increase access to energy 
significantly for Rwandans and their regional neighbors, expand the 
number of Rwanda university-educated students from the thousands to the 
tens of thousands, and provide low-cost ``green'' housing for middle-
income Rwandans. U.S. investment has the potential to change Rwanda's 
economic landscape and play a significant role in assisting the Rwandan 
Government's efforts to become an economic hub for Central Africa. The 
BIT with Rwanda, once in force, would reinforce the Rwandan 
Government's efforts to further reform its economy and promote a strong 
business climate. It would also set a very positive example in the 
region.
    The Department of State and the Office of the U.S. Trade 
Representative co-led the negotiation of this treaty, with the 
participation of the Departments of Commerce, the Treasury, and other 
U.S. Government agencies. The treaty, which was signed on February 19, 
2008, adheres closely to the text of the 2004 U.S. Model BIT. As such, 
it contains a set of core investor protections, which include:

--National treatment and most-favored-nation treatment for the full 
    life cycle of investment, including in the establishment, 
    acquisition, operation, management, and ultimate disposition of an 
    investment;
--The free transfer of investment-related funds;
--Prompt, adequate, and effective compensation in the event of an 
    expropriation;
--A minimum standard of treatment grounded in customary international 
    law;
--Freedom of investment from specified performance requirements;
--Prohibitions on nationality-based restrictions for the hiring of 
    senior managers; and
--Provisions on transparency in publication of investment-related laws, 
    regulations, and other measures, and the opportunity, to the extent 
    possible, for interested parties to comment on such proposed 
    measures.

    The treaty also provides investors with the opportunity to resolve 
investment disputes with a host government through international 
arbitration.
    This investment treaty is based on the 2004 U.S. Model BIT, which, 
compared to earlier BITs, includes a number of provisions designed to 
improve the operation of the treaty. These developments include greater 
specificity with respect to key substantive provisions, and rules of 
procedure designed to eliminate frivolous claims and to enhance 
efficiency, transparency, and public participation in the arbitration 
process. The Parties also recognize in the treaty that it would be 
inappropriate to encourage investment by weakening or reducing the 
protections afforded in domestic environmental and labor laws. Under 
the Model, each Party may take limited exceptions to the core 
obligations related to national treatment, most-favored-nation 
treatment, performance requirements, and senior management and boards 
of directors. In this area, Rwanda has taken only a few, narrow 
exceptions; the treaty thus sends a powerful signal about Rwanda's 
openness to foreign investment.
    In sum, this treaty will complement Rwanda's reform efforts, help 
Rwanda attract more foreign investment that is vital to economic 
prosperity, and deepen our economic relationship with an important 
partner in Africa.
    Looking ahead, the administration is interested in exploring 
possibilities for new U.S. BITs in Africa. On August 5, at an event 
during the African Growth and Opportunity Act Forum in Nairobi, 
Secretary of State Clinton and U.S. Trade Representative Kirk announced 
that the United States would start negotiations toward a BIT with 
Mauritius. Mauritius is another partner in sub-Saharan African that has 
taken serious steps to enact reforms and improve its business climate. 
At that time, Secretary Clinton echoed President Obama's call to do 
more to promote investment in Africa, and commented that the launch of 
negotiations with Mauritius is in keeping with our broader interest in 
engaging other potential BIT partners in Africa.
    In conclusion, the administration wishes to thank the committee for 
its consideration of the treaty and we urge you to report it favorably 
to the full Senate for action.

    Senator Kaufman. Thank you.
    Ms. Jones.

STATEMENT OF HON. KERRI-ANN JONES, ASSISTANT SECRETARY, BUREAU 
   OF OCEANS AND INTERNATIONAL ENVIRONMENTAL AND SCIENTIFIC 
                  AFFAIRS, DEPARTMENT OF STATE

    Dr. Jones. Mr. Chairman, thank you for the opportunity to 
testify today in support of the International Treaty on Plant 
Genetic Resources for Food and Agriculture.
    The security of U.S. agriculture depends on the stability 
and high yield of U.S. crops, which in turn is contingent on 
the continued development of new crop varieties. The crops we 
grow are always under threats from diseases, pests, drought, 
and floods. Our food security will depend in part upon breeding 
new crops with new traits.
    To develop such varieties, breeders and researchers require 
access to a broad spectrum of genetic raw material which 
contains traits, such as resistance to virulent pests and 
disease. Each nation, including the United States, is 
interdependent on many other nations for access to that genetic 
material. Consequently, protecting what is termed, ``plant 
genetic resources for food and agriculture'' and facilitating 
international access to such material are critical priorities 
for the United States and the entire international community.
    For the past 40 years, political and legal uncertainty has 
characterized the environment for international exchanges of 
agricultural plant genetic resources. During this period, U.S. 
researchers found it increasingly difficult to gain access to 
plant breeding materials in other countries. Meanwhile, 
technological advances significantly improved our ability to 
identify, characterize, and utilize agricultural genetic 
resources, thereby increasing the importance of access to gene 
pools outside of our borders.
    By establishing a stable, legal framework for international 
germplasm exchanges, the treaty benefits both research and 
commercial interests in the United States. This treaty promotes 
global food security through the conservation and sustainable 
use of plant genetic resources for food and agriculture. It 
creates a multilateral system for access to and benefit-sharing 
regarding certain plant genetic resources to be used for 
research, breeding, and training for food and agriculture.
    The treaty currently covers the exchange of material for 64 
food and feed crops. More may be added in the future through 
the agreement of the parties.
    The treaty entered into force in 2004 and now has a 120 
parties. The United States signed the treaty in 2002. The 
President forwarded it to the Senate for consideration in July 
2008. Throughout the negotiating process, the United States was 
firmly committed to creating a system that promotes U.S. and 
global food security and protects U.S. access to genetic 
resources held outside of our borders.
    The United States also sought to protect the ability of the 
international agricultural research centers, the centers that 
were largely responsible for the Green Revolution, to continue 
to genetically improve crops that underpin global food 
security.
    The treaty enjoys broad stakeholder support, as you have 
already mentioned, including several prominent industrial 
organizations, such as the ones you mentioned, but also the 
American Soybean Association and the National Association of 
Wheat Growers.
    The treaty is consistent with existing U.S. practice and 
may be implemented under existing U.S. authorities. No 
statutory changes are needed.
    The Agricultural Research Service, in their role as manager 
of the National Plant Germplasm System, would play a major role 
in domestic treaty implementation. For more than 50 years, the 
U.S. National Plant Germplasm System has distributed samples of 
germplasm to breeders and researchers worldwide and free of 
charge, and thereby already contributes significantly to the 
global effort to safeguard plant germplasm for food security 
now and in the future.
    Consequently, the United States is already in compliance 
with key provisions of the treaty, so ratification would not 
entail major policy or technical changes to the current 
National Plant Germplasm System as it operates.
    Mr. Chairman, the United States Department of Agriculture 
has long been recognized as the world leader in plant germplasm 
conservation and distribution. As a party to the treaty, U.S. 
entities would gain guaranteed access to plant genetic 
resources covered by the treaty. Ratification of the treaty 
would underscore our continued leadership, and it would help 
U.S. farmers and researchers sustain and improve their crops 
and promote food security for future generations, not only in 
the United States, but globally.
    Thank you, Mr. Chairman, for this opportunity to convey our 
support for ratification. I would be happy to answer any 
questions.
    [The prepared statement of Ms. Jones follows:]

 Prepared Statement of Assistant Secretary Dr. Kerri-Ann Jones, Bureau 
   of Oceans and International Environmental and Scientific Affairs, 
                  Department of State, Washington, DC

    Mr. Chairman and members of the committee, thank you for the 
opportunity to testify today in support of the International Treaty on 
Plant Genetic Resources for Food and Agriculture (``the Treaty'').
    Mr. Chairman, the security of U.S. agriculture depends on the 
stability and high yield of U.S. crops which, in turn, is contingent on 
the continual development of new crop varieties. The crops we grow are 
always under threats from diseases, pests, droughts and floods. 
Globalization has acted to bring continuous threats of new pests and 
diseases into crop-producing areas, which can devastate crops or reduce 
yields. Our food security will in part depend upon breeding new crops 
that need less water but still produce high yields. To develop these 
new crop varieties, breeders and researchers require access to a broad 
spectrum of ``genetic raw material'' containing key traits such as 
immunity to virulent pests and diseases. Each nation--including the 
United States--is dependent on many other nations for access to that 
genetic material. Consequently, facilitating international access to 
what is termed ``plant genetic resources for is a critical priority for 
the United States and the entire international community.
    Over time, U.S researchers have found it increasingly difficult to 
gain access to plant breeding materials in other countries. Meanwhile, 
technological advances significantly improved our ability to identify, 
characterize and utilize agricultural genetic resources, thereby 
increasing the importance of access to gene pools outside of our 
borders. By establishing a stable legal framework for international 
germplasm exchanges, this Treaty benefits both research and commercial 
interests in the United States. The Treaty also promotes global food 
security through the conservation and sustainable use of plant genetic 
resources for food and agriculture.
    The centerpiece of the Treaty is the establishment of a 
``Multilateral System'' for access to, and benefit-sharing regarding, 
certain plant genetic resources to be used for research, breeding, and 
training for food and agriculture. The scope of the Treaty's coverage 
currently encompasses genetic resources of 64 crops and forages that 
are maintained by International Agricultural Research Centers or that 
are under the management and control of national governments and in the 
public domain. Access to covered germplasm is granted through a 
Standard Material Transfer Agreement, a contract that defines the terms 
of access and benefit-sharing. Furthermore, the Treaty provides a 
mechanism for enabling developing countries to acquire the capacities 
needed to conserve and sustainably use plant germplasm essential for 
food security, including facing the global challenges associated with 
climate change.
    The Treaty entered into force in 2004 and now has 120 Parties. The 
United States signed the Treaty in 2002. The President forwarded it to 
the Senate for consideration in July 2008, after negotiations of the 
Standard Material Transfer Agreement were completed. Throughout the 
Treaty negotiating process, the United States was firmly committed to 
creating a system that promotes U.S. and global food security and 
protects U.S. access to genetic resources held outside our borders. The 
United States also sought to protect the ability of the International 
Agricultural Research Centers--the institutions largely responsible for 
the ``Green Revolution'' which saved billions of lives--to continue to 
genetically improve crops that underpin global food security. The 
Treaty enjoys broad stakeholder support, including support for U.S. 
ratification from several prominent industry organizations such as the 
American Seed Trade Association, the National Farmers Union, the 
American Soybean Association, the National Association of Wheat 
Growers, the National Corn Growers Association, the Biotechnology 
Industry Organization and the Intellectual Property Owners of America.
    Mr. Chairman, the Treaty is consistent with existing U.S. practice 
and may be implemented under existing U.S. authorities. No statutory 
changes are needed. The Agricultural Research Service, in its capacity 
as manager of the National Plant Germplasm System, would play a major 
role in domestic Treaty implementation. For more than 50 years, the 
U.S. National Plant Germplasm System has distributed samples of 
germplasm to plant breeders and researchers worldwide and free of 
charge, thereby already contributing significantly to the global effort 
to safeguard plant germplasm for food security, now and in the future. 
Consequently, the United States is already in compliance with key 
provisions of the Treaty, and ratification would not entail major 
policy or technical changes to current National Plant Germplasm System 
operations.
    Mr. Chairman, the United States Department of Agriculture has long 
been recognized as the world leader in plant germplasm conservation and 
distribution. If the U.S. ratified the Treaty, U.S. entities would gain 
guaranteed access to plant genetic resources covered by the Treaty. As 
I have highlighted before, global access to plant genetic resources is 
critical to the efforts of researchers and plant breeders to develop 
new crop varieties that are more nutritious, are resistant to pests and 
diseases, show improved yields, and are better able to tolerate 
environmental stresses. The emergence of new biotechnology-based plant 
breeding tools only heightens the importance of open access to plant 
genetic resources.
    Ratification of the Treaty would not only underscore our continued 
leadership but it would also help U.S. farmers and researchers sustain 
and improve their crops and promote food security for future 
generations, not only in the United States but globally.

    Senator Kaufman. Thank you very much.
    Ms. Corwin, as has been pointed out, our existing treaties 
with Belgium, Germany, and Canada have mandatory arbitration 
requirements. How does Treasury decide whether treaties should 
include mandatory arbitration?
    Ms. Corwin. Thank you, Mr. Kaufman.
    We look at arbitration as an appropriate extension of our 
current competent authority process to resolve disputes, and we 
think it is appropriate to resolve disputes in almost every 
treaty. At the moment, we consider arbitration on a case-by-
case basis, looking to what the other treaty country thinks 
about the provision, but also the history of disputes and the 
difficulty of disputes we have with a particular jurisdiction--
you know, the historic aspects of it.
    Senator Kaufman. Are you thinking about making it standard 
for all treaties?
    Ms. Corwin. It is something, again, we think is appropriate 
as a dispute resolution mechanism. At the moment we are not 
making it--going to make it part of our model, but we are going 
to continue to study it as an effective tool and consider that 
for the future.
    Senator Kaufman. How do you feel about the idea of 
reporting on these arbitration?
    Ms. Corwin. I'm sorry?
    Senator Kaufman. How do you feel about reporting more on 
the arbitration process in these treaties?
    Ms. Corwin. We are comfortable continuing to report on the 
process and continue to work with this committee on refining 
the effectiveness of it as a tool.
    Senator Kaufman. And you feel pretty good about the Malta 
treaty, that we've overcome the problems we've had in the past 
and are ready to terminate the former treaty?
    Ms. Corwin. Yes, we are comfortable. Since the treaty was 
terminated, a number of significant changes have been made in 
Malta. They, mostly importantly, as of 2008, repealed their 
bank secrecy rules that were an impediment to information 
exchange. Since 1996, they've also acceded to the EU, which has 
caused them to implement a number of EU directives--like the 
money laundering directive, the savings directive--that have 
assured their participation in mutual assistance programs, and 
also ensured that they would have to commit to international 
transparency standards.
    With regard to the treaty-shopping concerns, there are a 
number of factors that make a jurisdiction an attractive target 
for treaty-shoppers. As my colleague has mentioned, the 
internal domestic laws of that jurisdiction are one of those 
factors, but other factors include the attractiveness of the 
treaty itself that's in existence in terms of the source-
country withholding rates, as well as the limitation on 
benefits. In this treaty, we have not--unlike a lot of our 
treaties, where we have gone to zero on withholding source-
country withholding with respect to dividends, interest, and 
royalties, we have, in this treaty, included positive rates of 
withholding, which makes it a less attractive target for 
treaty-shoppers. But most importantly, we have included a very 
robust ``limitation on benefits'' provision that makes it very 
difficult for a third country to use Malta to strip income out 
of the United States with a--and notably, a provision that 
prevents payments out of a Maltese corporation to a third 
country that would, we feel, ``alleve'' our treaty-shopping 
concerns.
    Senator Kaufman. Great.
    Mr. Barthold, can you kind of summarize--you have a number 
of concerns about the mandatory arbitration--can you talk a 
little bit about that?
    Mr. Barthold. Well, our concerns were more just questions 
of direction and consistency. The one that I noted was, in two 
cases now, we have that arbitration will be available with 
respect to any aspect of the treaty. In two of the other 
existing treaties, it's a narrower scope. So, our question was 
really, ``Why the broader scope in some cases, the narrower 
scope in others?'' Going forward, if it is the intent, as might 
have been suggested, to use this as an additional tool to 
resolve disputes, how broadly should it be applied, or should 
it be applied in more narrow circumstances?
    We also had some questions about the precise role of the 
taxpayer position paper. I guess I would say that it's somewhat 
unclear to us what benefit that necessarily brings to the 
process, since the two parties would be, hopefully, fully--the 
two countries--would hopefully be fully explaining the position 
that they took. I guess it is conceivable the taxpayer could 
provide some additional information, but one would think that 
the taxpayer might have been working in concert with one of the 
two contracting states to begin with.
    Then there's also the issue related to the arbitration 
proceedings and the results as to what sort of precedents they 
might provide for future cases of dispute. Across the four 
possible arbitration countries, that's left somewhat unclear, 
in that, while each of the treaties said there's no 
precedential value--at least in the case of the German Treaty, 
it's--while there's no precedential value, if you get a similar 
dispute, it's hoped that you get a similar outcome. And that's 
stated as part of the explanation of how arbitration would 
work.
    So, I think our questions or our concerns are just a little 
bit more of the unknown. How does Treasury think this will be 
refined, going into the future.
    Senator Kaufman. And do you think there should be some kind 
of a standard arbitration provision?
    Mr. Barthold. Well, if we think that this is an important 
thing to do, an important part of providing for dispute 
resolution, I think it would be important to outline that as 
part of the model treaty.
    Now, of course, in practice, when the Treasury negotiates 
with other countries, you never get a result that looks exactly 
like the model, because the other country has opposing goals. I 
mean, the model lays out what we think is a good, reasonable 
approach, and a lot of times we end up there, but I wouldn't 
expect that we'd have uniformity across all provisions. But, 
the model, in stating what we think would be a good, reasoned 
approach, does also help guide us when we go forward in 
negotiations. So, I think there would be some benefit to 
thinking through what would be a good, reasoned approach.
    Senator Kaufman. And you asked--you think we should ask 
questions about additional reporting requirements. What would 
be the objective of additional reporting requirements, in your 
mind?
    Mr. Barthold. The reporting requirements? I was just 
pointing out that, technically, the requirement of the Senate 
from last year only applies to the treaties with Belgium, 
Canada, and Germany. So, you'd have to broaden that requirement 
to bring in France.
    Now, in practice, there really can't be any reporting until 
there's arbitration. And I believe it's 10 cases. Right? And, 
it's largely the hope, I believe, of the countries that have 
negotiated arbitration as part of the treaties, that they may 
never get to arbitration; that, in fact, arbitration itself 
will be seen as either an embarrassment to the competent 
authorities or an additional spur that helps the competent 
authorities reach a resolution. And then, we don't actually get 
to arbitration, in most cases, until after a 2-year clock has 
started.
    So, I don't imagine we're anywhere near to getting anybody 
into arbitration quite yet, and it'll take a while to build up 
10 cases. But, if we were to include reporting on possible 
French arbitration cases, given the differences in scope across 
the different treaties, given the fact that France will permit 
taxpayer participation, a report would be very interesting, 
just to see how the incomes matter, how the report of the 
taxpayer matters, how the breadth or narrowness of the scope 
matters. So, we think it would be a worthwhile thing for the 
committee to request in regard to the mandatory arbitration in 
the French protocol.
    Senator Kaufman. Thanks.
    Mr. Scholz, do you expect investment in Rwanda to increase 
significantly once we enter into this treaty?
    Mr. Scholz. As I mentioned in my testimony, our investment 
in Rwanda in 2008 amounted to about $50 million, and the 
Embassy has projected that that could go up as much as--up to 
$600 million in the next few years.
    There is interest on the part of United States investors in 
the areas of green housing, education, infrastructure--
particularly energy infrastructure--in Rwanda. So, those are 
important areas where we could see some actual growth in U.S. 
investment flows.
    Senator Kaufman. Again, what businesses do you think would 
be going in there--what United States businesses will be 
investing in Rwanda, do you think, after the treaty?
    Mr. Scholz. Well, again, it would--it--there are firms in 
those sectors that we've been told have been interested. I 
can't give you specific companies at this point, but I'd be 
happy to followup with more specifics.
    Senator Kaufman. That'd be great.
    [The information provided by Mr. Scholz follows:]

    I can provide a few examples of U.S. companies that have made or 
are making significant investments in Rwanda. In March of this year, 
U.S. firm ContourGlobal announced that it reached agreement with the 
Government of Rwanda to invest $325 million in methane gas extraction 
and power generation. U.S. firm Eco-Fuel and a British partner recently 
announced they will undertake a $300 million renewable energy project 
using jatropha to produce biofuel in Rwanda. Sorwathe, a U.S. tea 
company that has invested Rwanda since 1978, recently opened a new $2 
million tea factory in the country. Also this year, Starbucks Coffee 
opened a ``Farmer Support Center'' in Kigali, the first such investment 
by the company in Africa. We understand from our Embassy in Kigali that 
a number of other U.S. firms are giving Rwanda a serious look as a 
potential investment destination.
    Of course, the existence of a BIT is one of many factors that 
investors may consider in making their investment decisions, but 
bringing the BIT into force would further improve the attractiveness of 
Rwanda's investment climate.

    Senator Kaufman. Thank you very much.
    How does a treaty fit into our bilateral relations with 
Rwanda on human rights?
    Mr. Scholz. We've--Rwanda's made admirable advances over 
the last decade in economic development and making significant 
progress in adjudicating an enormous backlog of genocide cases. 
Despite these advances, Rwanda continues to face significant 
challenges regarding reconciliation, human rights, 
democratization, as it continues its efforts to rebuild a 
society torn asunder by war and genocide. The United States and 
the international community continue to work toward the goal of 
a stable, growing, democratic Rwanda with improved respect for 
human rights. Specifically, the United States works with the 
Government of Rwanda to open the political space, increase 
civil liberties, and to strengthen the judiciary.
    The treaty itself can promote economic development and 
employment in Rwanda, as well as improve the rule of law and 
transparency. These objectives are complementary to our efforts 
to work with the Rwandan Government to improve human rights and 
democracy in Rwanda.
    We also continue to use other channels to raise our views 
on issues of human rights and democratization. These include 
our bilateral dialogues and other contacts and the Annual AGOA 
Country Review and the Department's Annual Human Rights Report.
    Senator Kaufman. Good. This is important, that we keep 
talking to them about these human rights. I mean, they've--
civil society abuse, torture, you know, a number of things 
going on there. Yes, they've come a long way, but they still 
have a way to go.
    Mr. Scholz. Yes----
    Senator Kaufman. Thank you.
    Mr. Scholz [continuing]. Well it's an important objective 
for the Department.
    Senator Kaufman. It is.
    Ms. Jones, Plant Genetic Resources Treaty. Can you give us 
some examples of a problem this treaty will help solve?
    Dr. Jones. Yes, thank you, Mr. Chairman.
    I think that the kind of problems that need to be solved, 
from the sense of what's happening around the world regarding 
crops being under stress, is the sort of thing that we're 
seeing with wheat rust. This is a disease that has emerged--
reemerged recently, a virulent strain that is likely to affect 
the U.S. wheat crops. Eighty percent of them are--look like 
they are vulnerable to it.
    It's the sort of thing where we would need to go outside of 
our own genetic resource base to see if we can help ourselves, 
as well as the world, to find resistance to this kind of 
disease. And with this particular example, we're working with 
two of the international agricultural research centers--the one 
that deals with wheat and the one that deals with dryland 
agriculture--looking at their genetic resources.
    And so, having access to these resources is hugely 
important, because we need to be able to look broadly for 
traits that solve problems, as well as bring forward new 
strains and varieties that could be more resistant and more 
productive.
    Senator Kaufman. Can you tell me a little bit about how 
this will help global food security?
    Dr. Jones. Certainly.
    It helps global food security in that it stimulates 
research and it allows important food crops to be researched in 
a way that will help them be more productive, and also be able 
to grow in areas that are more marginal and more stressed. And 
that's likely--and we see it now, that's what's happening in 
agriculture around the world. Lands are being affected by a 
number of things, including climate change. And so, we will 
need crops that have different kinds of resiliencies. And to 
find that, we will have to look to genetic databases, genetic 
resources around the world.
    And so, it's an underpinning to food security, in that it's 
a resource that will let us get to the crops that we will 
eventually need worldwide.
    Senator Kaufman. Good.
    I want to thank the witnesses for their testimony and for 
their questions.
    Because tomorrow's a holiday, I'll leave the record open 
until noon on Thursday.
    That said, I understand the chairman will take up the 
French--France protocol at a business meeting on November the 
17th, so it'll be best to submit any questions on the record 
for the treaty by close of business today, if possible.
    Thank you very much.
    [Whereupon, at 9:40 a.m., the hearing was adjourned.]
                              ----------                              


       Additional Questions and Answers Submitted for the Record


          Responses of Manal Corwin to Questions Submitted by 
                         Senator John F. Kerry

    Question. Michael McIntyre, professor of law at Wayne State 
University and Robert S. McIntyre, Director of Citizens for Tax 
Justice, have criticized the information exchange provisions in the 
France and New Zealand protocols and the Malta treaty as inadequate and 
obsolete. They are concerned the provisions would only provide for an 
exchange of information on specific request. They assert that the 
emerging international standard for effective exchange of information 
requires information not only on specific request but also automatic 
and spontaneous exchanges. Why do the information exchange provisions 
for these treaties not include automatic and spontaneous exchanges?

    Answer. The provisions for exchange of information in the proposed 
tax treaty with Malta and the proposed protocols with France and New 
Zealand comply with the U.S. and international standards for full 
exchange of information under income tax treaties. The treaty 
provisions permit information exchange on request, on a routine (or 
automatic) basis, and on a spontaneous basis. This level of information 
exchange is consistent with international standards. The United States 
is committed to robust information exchange for tax purposes and has 
been a leader in efforts to improve information exchange worldwide. We 
continue to work with colleagues in other jurisdictions to improve 
mechanisms for information exchange, including with respect to 
``routine'' or ``automatic'' exchange.

    Question. The United States has automatic exchanges of information 
under its tax treaties with Canada and Mexico. France is supporting 
automatic exchanges of information with its EU partners. Why should the 
treaty with France be different than the treaties with Canada and 
Mexico?

    Answer. As is the case with the U.S. Model tax treaty and all 
modern U.S. tax treaties, the tax treaties with Canada and Mexico 
permit, but do not require, the revenue authorities to exchange 
information on an automatic basis. The provisions for exchange of 
information in the proposed protocol with France similarly permit, but 
do not require, the revenue authorities to exchange information on an 
automatic basis. In this regard the treaty with France is fully 
consistent with U.S. and international standards as they have existed 
for a number of years. The Treasury Department is working with other 
treaty countries to encourage and improve the mechanisms for effective 
exchange of information, including mechanisms for routine or automatic 
information exchange.

    Question. Problems related to bank secrecy have been highlighted 
recently by the UBS case. Do you think the Malta treaty and the France 
and New Zealand protocols would improve the exchange of information in 
a manner sufficient to prevent another UBS from happening?

    Answer. The information exchange articles in the Malta treaty and 
the France and New Zealand protocols conform with U.S. and 
international standards for information exchange and thus override any 
domestic bank secrecy provisions. However, even in countries with which 
the United States has an effective comprehensive exchange of 
information program that conforms to international standards, 
uncooperative foreign banks can in some circumstances conceal overseas 
investments by U.S. persons. Thus, in addition to focusing on 
information exchange in bilateral negotiations, the Treasury Department 
is pursuing a multipronged approach that includes legislative 
proposals, multilateral initiatives to improve transparency and 
information exchange in tax matters, and IRS enforcement actions. This 
multipronged approach is intended to provide the IRS with the 
information (from taxpayers, third parties, and other countries) and 
the tools needed to tackle offshore tax evasion.

    Question. One of the reasons the tax treaty was terminated with 
Malta was concerns about the exchange of information. Why do you 
believe now that there will be an adequate exchange of information?

    Answer. Concerns about inadequate information exchange were among 
the factors that led the United States to terminate the prior tax 
treaty with Malta. The negotiations focused heavily on addressing this 
concern. Since 1997, Malta has made key changes to its domestic law 
regarding exchange of tax information. Most importantly, in 2008 Malta 
changed its law to permit the exchange of information held by financial 
institutions. This change made it possible for Malta to agree to 
comprehensive information exchange obligations in the proposed treaty 
that meet U.S. and international standards. As a member of the European 
Union, Malta is also required to conform to international transparency 
norms. Because of these recent developments in Malta, the Treasury 
Department believes that Malta will be able to comply with its 
information exchange obligations under the proposed treaty.

    Question. Is the limitations on benefits article included in the 
Malta treaty sufficient to prevent the use of the treaty by persons 
that are not residents of the United States or Malta?

    Answer. Yes. The features of Malta's tax system were taken into 
account in negotiating the limitation on benefits provision of the 
proposed treaty. As a result, the limitation on benefits article in the 
proposed treaty with Malta is significantly more restrictive than the 
limitation on benefits provisions in the 2006 U.S. Model tax treaty or 
in any existing U.S. tax treaty. The Treasury Department believes that 
this limitation on benefits article is sufficient to prevent abuse of 
the treaty by third-country investors. In addition, the proposed treaty 
also provides relatively high rates for source-country taxation of 
dividends, royalties, and interest which make Malta unattractive as a 
treaty shopping jurisdiction.
                                 ______
                                 

Responses of Manal Corwin to Questions Submitted by Senator Richard G. 
            Lugar Relating to the Tax Convention With Malta

                            treaty shopping
    Question. November 16, 1995, the United States delivered a notice 
of termination to Malta stating that the income tax treaty between the 
two countries would cease to have effect as of January 1, 1997. The 
termination of the treaty was due, at least in significant part, to 
Treasury's concern with changes in prior Maltese law that might have 
inappropriately facilitated the use of the treaty by persons who were 
not residents of Malta or the United States.

   In light of the prior treaty history, what considerations 
        were taken by Treasury to determine that it was appropriate to 
        enter into a new income tax treaty with Malta?

    Answer. The United States terminated the prior tax treaty with 
Malta because of concerns about the potential for treaty shopping and 
because of Malta's inability to adequately exchange information with 
the United States. Since 1997, significant changes in Malta's domestic 
law relating to exchange of information have been enacted and Malta has 
agreed to provisions in the proposed treaty that protect against treaty 
shopping concerns. Most importantly, in 2008 Malta changed its law to 
permit the exchange of information held by financial institutions. This 
change made it possible for Malta to agree to include comprehensive 
information exchange obligations in the proposed treaty that meet U.S. 
and international standards. In addition, Malta acceded to the European 
Union in 2004. As a member of the European Union, Malta is required to 
conform to international transparency norms. Finally, Malta agreed to 
antitreaty shopping rules in the proposed treaty designed to ensure 
that treaty benefits would be restricted to bona fide residents of the 
United States and Malta. The limitation on benefits article in the 
proposed treaty is more restrictive than the limitation on benefits 
article found in the 2006 U.S. Model tax treaty or in any existing U.S. 
tax treaty. Moreover, the proposed treaty also provides relatively high 
rates for source country taxation of dividends, royalties, and 
interest. Taken together, these recent developments in Malta's domestic 
law and the strong protections in the proposed limitation on benefits 
article have lead Treasury to conclude that it is appropriate to enter 
into the proposed treaty with Malta.

    Question. Do the provisions of the proposed treaty, taken together, 
alleviate all concerns that led the Treasury Department to terminate 
the prior treaty?

    Answer. Yes. The provisions of the proposed tax treaty differ from 
the terms of the prior tax treaty with Malta in two key aspects. First, 
the proposed tax treaty provides for a full exchange of information 
that meets U.S. and international standards. This includes the 
obligation to obtain and provide information held by banks. Second, the 
proposed tax treaty contains a comprehensive limitation on benefits 
provision that would restrict treaty benefits to residents of the 
United States and Malta. The proposed treaty also provides relatively 
high rates for source country taxation of dividends, royalties, and 
interest.

    Question. According to the Joint Committee on Taxation Explanation 
on this proposed treaty, Maltese law still includes a number of 
characteristics that are conducive to some of the concerns that led to 
the termination of the previous treaty with Malta. For example, payment 
of dividends and interest to foreign persons are not subject to 
withholding tax in Malta. In addition, tax treatments of foreign 
subsidiaries in Malta might contribute to tax treaty benefits being 
extended to non-United States and Malta residents.

   Considering these concerns, is the limitation-on-benefits 
        article sufficient to prevent the use of the proposed treaty by 
        persons that are not residents of the United States or Malta?

    Answer. Yes. There are several factors that make a jurisdiction an 
attractive location for treaty shopping. A favorable domestic tax 
regime is only one of those factors. Other essential factors, however, 
include favorable treaty rates on source country taxation and an 
ability to access those rates by qualifying for treaty benefits. The 
rates for source-country taxation of dividends, interest, and royalties 
in the proposed treaty with Malta are higher than most U.S. income tax 
treaties. In addition, the limitation on benefits provision in the 
proposed treaty is significantly more restrictive than the limitation 
on benefits provisions in the 2006 U.S. Model tax treaty, or in any 
existing U.S. tax treaty making it very difficult for a non-resident 
investing in the United States through Malta to qualify for the 
benefits of the treaty. This limitation on benefits article is 
sufficient to prevent abuse of the treaty by persons that are not 
residents of the United States or Malta.

    Question. Since the limitation-on-benefits article is a deviation 
from the U.S. Model tax treaty, will legitimate persons be able to 
qualify for benefits under the proposed treaty?

    Answer. Yes. The objective tests in the proposed limitation on 
benefits article are designed to allow residents of the United States 
and Malta to enjoy the benefits of the tax treaty. In addition, as is 
the case with all U.S. tax treaties containing modern limitation on 
benefits provisions, legitimate investors who nevertheless fail to 
satisfy any of the objective criteria may be granted treaty benefits at 
the discretion of the revenue authorities of the relevant jurisdiction.

                           WITHHOLDING RATES

    Question. Under the proposed treaty, the withholding rates are a 
deviation from the U.S. Model tax treaty and may discourage non-United 
States and Malta residents from receiving benefits. When does the 
Treasury Department believe that is appropriate to deviate from the 
withholding tax rates provided in the U.S. Model treaty?

    Answer. The withholding rate reductions in income tax treaties are 
negotiated on a case-by-case basis, taking into account several 
factors, including the bilateral economic relationship with the 
proposed treaty partner, the cross-border flows of income between the 
two countries and the particular features of the tax system of the 
proposed treaty partner. As a result, the withholding rate limitations 
agreed to in a particular treaty will sometimes differ from the 
withholding rate reductions provided in the U.S. Model tax treaty.

                        TRIANGULAR ARRANGEMENTS

    Question. The proposed treaty includes special antiabuse rules 
intended to deny treaty benefits in certain circumstances in which a 
Malta-resident company earns U.S.-source income attributable to a 
third-country permanent establishment and is subject to little or no 
tax in the third jurisdiction and Malta.

   What criteria will the Treasury Department consider in 
        determining when antiabuse rules applicable to triangular 
        arrangements will be included in future treaty negotiations?

    Answer. Under prior policy, the Treasury Department sought to 
include a limitation on benefits provision to address so-called 
``triangular arrangements'' only when the treaty partner used an 
exemption system to eliminate double taxation. However, in recent years 
the Treasury Department has chosen to seek the inclusion of such a rule 
in all new income tax treaties. A rule addressing triangular 
arrangements will likely be included in the next revision of the U.S. 
Model tax treaty.
                                 ______
                                 

 Response of Manal Corwin to Question Submitted by Senator Richard G. 
  Lugar Relating to the Protocol Amending the Tax Convention With New 
                                Zealand

    Question. Why does the tax protocol with New Zealand not include an 
arbitration provision such as has been included in recent tax treaties 
with Canada, Germany, and Belgium along with the recently negotiated 
protocol to the tax treaty with France?

    Answer. The Treasury Department believes that mandatory binding 
arbitration can be an effective tool to facilitate the resolution of 
disputes between the revenue authorities of the two countries party to 
a tax treaty. The Treasury intends to raise the inclusion of an 
arbitration provision with our treaty partners on a case-by-case basis. 
While we discussed with New Zealand the possibility of including an 
arbitration provision, we ultimately decided not to do so, because we 
have not had any difficulties or disputes with the New Zealand tax 
authorities in the application of the existing tax treaty.
                                 ______
                                 

Responses of Manal Corwin to Questions Submitted by Senator Richard G. 
  Lugar Regarding the Protocol Amending the United States-France Tax 
                                 Treaty

                              ARBITRATION

    Question. The France Protocol is the fourth tax treaty Treasury has 
concluded that contains binding arbitration procedures for resolving 
disputes between the competent authorities regarding the application of 
the Convention. What criteria will the Treasury Department use to 
determine whether a future treaty should include mandatory binding 
arbitration?

    Answer. The Treasury Department believes that mandatory binding 
arbitration, as an extension of the competent authority negotiation 
process, is an effective tool to strengthen the Mutual Agreement 
Procedure and to achieve prompt and efficient settlement of disputes 
between two tax authorities. The Treasury Department has been 
discussing mandatory binding arbitration in general terms with our 
treaty partners, and intends to continue to raise inclusion of a 
mandatory binding arbitration provision with our treaty partners in 
future negotiations. In considering a mandatory binding arbitration 
provision with our treaty partners, the volume of cases, the nature of 
the relationship between the two competent authorities, and the treaty 
partner's views with respect to such a provision are important factors. 
Mandatory binding arbitration remains a relatively new mechanism for 
resolving disputes under our tax treaties, and going forward we will 
study the effectiveness of the arbitration provisions we have concluded 
so far. The Treasury Department welcomes input from the committee 
concerning the factors that should be taken into account when 
considering whether to include an arbitration provision in the context 
of the negotiation of a particular agreement.

    Question. The arbitration provision in the France Protocol permits 
the arbitration of any case under any article of the treaty, unless the 
competent authorities agree that the case is not suitable for 
arbitration. Under the Canada and Germany treaties, similar arbitration 
procedures apply only to disputes arising under specified articles of 
the treaty. What factors did Treasury consider in deciding to adopt a 
broader scope for arbitration of disputes under the France Protocol 
than under the Canada and Germany treaties?

    Answer. The Treasury Department believes that mandatory binding 
arbitration can be beneficial in resolving all disputes that might 
arise under an income tax convention. France agreed with the United 
States in this regard. However, the scope of an arbitration provision 
in a particular agreement is a matter that must be negotiated with the 
treaty partner. As a first step, some countries may only be willing to 
cover specific articles of a treaty. We believe it is important to make 
that first step with appropriate treaty partners. Also, it should be 
noted that while the mandatory binding arbitration provision in the 
agreements with Canada and Germany are limited to certain articles, 
other issues are eligible for arbitration if the competent authorities 
agree that the particular case is suitable for arbitration.

    Question. Describe Treasury's experience to date with the 
arbitration provisions in the tax treaties with Belgium, Canada, and 
Germany? Has the possibility of arbitration facilitated negotiated 
resolution of disputes under these treaties? Does Treasury envision 
significant numbers of cases being submitted to arbitration under these 
treaties in the next 2 years?

    Answer. With respect to the arbitration provision in the agreement 
with Germany, on December 8, 2008, the U.S. and German competent 
authorities entered into a memorandum of understanding and agreed on 
arbitration guidelines concerning a number of procedural matters to 
ensure the effective implementation of the arbitration provision. 
Similarly, with respect to the Belgian arbitration provision, on May 6, 
2009, the U.S. and Belgian competent authorities entered into a 
memorandum of understandingand agreed on arbitration guidelines. In 
compliance with the arbitration reporting requirements described in the 
report of the Senate Foreign Relations Committee on the 2007 United 
States-Canada protocol, the Treasury Department transmitted these 
documents to the Committees on Finance and Foreign Relations of the 
Senate and the Joint Committee on Taxation on November 9, 2009.
    With respect to the arbitration provision in the agreement with 
Canada, the U.S. competent authority began discussions with Canada 
earlier this year to provide guidance on procedural aspects of the 
arbitration provision.
    The agreements with Belgium, Canada, and Germany have only been in 
force for a short period of time. (The Germany and Belgium agreements 
entered into force in December 2007, and the agreement with Canada 
entered into force in December 2008.) No cases have yet been submitted 
to arbitration under the agreements with Germany, Belgium, or Canada. 
However, we believe that the prospect of impending mandatory binding 
arbitration creates an incentive for the competent authorities to reach 
agreement on a case before the arbitration process commences. 
Consequently, we expect MAP negotiations to continue to resolve the 
great majority of cases and do not anticipate a significant number of 
cases to require resolution through arbitration. The Treasury 
Department will monitor the performance of the provisions in the 
agreements with Belgium, Canada, and Germany, as well as the 
performance of the provision with France, if ratified.

    Question. Describe the opportunities for taxpayer participation 
under the arbitration provisions of the French Tax Protocol. What 
issues will taxpayers have the opportunity to address in submissions to 
the arbitration panel? Will taxpayers have the opportunity to address 
the proposed resolutions submitted by the competent authorities?

    Answer. The Treasury Department contemplates that if the proposed 
protocol with France is approved, the U.S. competent authority will 
work closely with the French competent authority to provide procedural 
guidance on the application of the United States-French arbitration 
provision, just as the U.S. competent authority has recently done with 
the German and Belgian competent authorities and is doing with the 
Canadian competent authority. The Treasury Department expects that such 
guidance will include guidance on the provision permitting affected 
persons to submit a position paper to the arbitration panel. Under the 
Memorandum of Understanding with France, the taxpayer is permitted to 
submit a position paper within 90 days of the appointment of the chair 
of the arbitration panel. The Memorandum of Understanding does not 
limit the issues that the taxpayer may address in its position paper, 
nor does it prevent the taxpayer from addressing the proposed 
resolutions submitted by the competent authorities. If the proposed 
protocol is approved, the Treasury Department will monitor the 
operation of the arbitration provision, including the rule allowing 
affected persons to submit a position paper. The Treasury Department is 
committed, in future discussions with our treaty partners concerning 
the inclusion of an arbitration provision, to striking the appropriate 
balance between allowing taxpayer input while maintaining the 
efficiency and effectiveness of the competent authority process, and 
the Treasury Department welcomes further input on this provision from 
the committee.
         automatic information exchange and john doe summonses
    Question. Given language barriers and translation difficulties, 
potentially vast amounts of information, and different tax reporting 
periods, are there any practical impediments to automatic information 
exchange with France?

    Answer. The question identifies some of the impediments the IRS 
faces in any automatic exchange process. A major practical impendent to 
utilization of information received through automatic exchange is the 
lack of a U.S. tax identification number (TIN) associated with the 
information received.

    Question. If the protocol to the French Tax Treaty goes into force, 
what mechanisms are in place to facilitate the removal of any 
impediments that have been identified in the previous question?

    Answer. The IRS and Treasury are addressing the practical 
impediments for effective automatic exchange of information, including 
the lack of a TIN, by working with specific treaty partners, including 
France, and also through OECD committees whose goal is to adopt tax 
identification numbers as a tool and collect foreign tax identification 
numbers when possible so that such identification numbers can be 
included in automatic exchange.

    Question. Does the Treasury Department expect any practical 
impediments from existing Federal or State law or rules in fulfilling 
obligations under the French Tax Protocol?

    Answer. The United States fully complies with its exchange-of-
information obligations under its tax treaties.

    Question. Under the French Tax Protocol, will France be required to 
exchange information in response to specific requests that are 
comparable to John Doe summonses under U.S. domestic law?

    Answer. The protocol authorizes the competent authorities to 
exchange information as may be relevant for carrying out the provisions 
of the Convention or to the administration or enforcement of the 
domestic laws concerning taxes imposed by the Contracting States, 
insofar as the taxation under those domestic laws is not contrary to 
the Convention. A specific request under the French tax treaty must 
generally identify the taxpayer (or taxpayers) whose income tax 
liability is in question and explain how the requested information may 
be relevant for carrying out the provisions of the treaty or the tax 
laws of the requesting state. A request may be possible in the case of 
an unnamed taxpayer or taxpayers if the taxpayer or group can be 
indentified through other means, such as by a specified account number 
that the taxpayer is known to have used or some other identifying 
characteristics.
                                 ______
                                 

Responses of Wesley Scholz to Questions Submitted by Senator Richard G. 
  Lugar Regarding the United States-Rwanda Bilateral Investment Treaty

    Question. In its 2008 decision in Medellin v. Texas, 128 S.Ct. 1346 
(2008), the Supreme Court concluded that the United States lacked the 
authority in U.S. law to give effect to a judgment of the International 
Court of Justice relating to U.S. obligations under the Vienna 
Convention on Consular Relations. The Foreign Relations Committee has 
previously stressed its view that it is important that the United 
States comply with its treaty obligations, and has observed that the 
committee generally does not recommend that the Senate give advice and 
consent to treaties unless it is satisfied that the United States has 
sufficient domestic legal authority to implement them. With these 
considerations in mind, please indicate what authorities Federal and 
State governments will rely on to implement the various obligations the 
United States would assume upon becoming party to this treaty.

    Answer. The United States is able to implement the proposed United 
States-Rwanda Bilateral Investment Treaty (BIT) sufficiently under 
existing legal authority and thus no further legal authority is 
necessary to implement the treaty. The Convention on the Recognition 
and Enforcement of Foreign Arbitral Awards, as codified in the Federal 
Arbitration Act, 9 U.S.C. Sec. 201, and the Convention on the 
Settlement of Investment Disputes Between States and Nationals of Other 
States, as implemented domestically, 22 U.S.C. Sec. 1650a, would apply, 
as relevant, in the context of enforcement of investor-State 
arbitration awards rendered pursuant to the proposed BIT.

    Question. Article 37 of the treaty provides for certain disputes 
between the parties to the treaty concerning its interpretation or 
application to be submitted to binding arbitration. What authorities 
would the administration intend to rely upon to implement any state-to-
state arbitral decisions awarded against the United States pursuant to 
this article?

    Answer. State-to-State arbitrations are extremely rare. In fact, no 
State-to-State arbitrations have taken place to date under U.S. 
bilateral investment treaties. Nevertheless, there are various tools at 
our disposal for implementing a State-to-State award should the 
situation arise.
    Articles 3 through 10 of the BIT and other provisions that qualify 
or create exceptions to these Articles, such as Article 15, are self-
executing but do not confer a private right of action. All remaining 
articles of the BIT are non-self-executing. As a result, should an 
arbitral decision conclude that U.S. State law is inconsistent with the 
BIT, the U.S. Government could, if necessary, choose to initiate a 
legal action against the State to ensure compliance with a self-
executing provision of the BIT. To the extent an arbitral decision 
determines that Federal law is inconsistent with the BIT and an award 
addresses a self-executing provision of the BIT, then as long as the 
statute in question predated the entry into force of the treaty, the 
later-in-time self-executing BIT provision would prevail over the 
earlier inconsistent statute.
    To the extent an award addresses Article 11 of the BIT, which is a 
non-self-executing provision of the BIT establishing investment 
protections and subject to State-to-State arbitration, the U.S. 
Government could seek legislation where no other existing authority 
permitted it to comply with the award or take other appropriate steps, 
such as seeking to interpret the statute in a manner that is consistent 
with the arbitral decision. Under current U.S. law, however, existing 
Federal authorities, for example, the Administrative Procedures Act, 5 
U.S.C. Sec. 551 et. seq., along with comparable state-level 
authorities, adequately ensure compliance with the transparency 
standards established in Article 11 of the BIT.
    Finally, were a State-to-State tribunal to award money damages 
against the United States, funds to satisfy such an award could be 
sought from appropriated funds, if any, or from the Judgment Fund (31 
U.S.C. Sec. 1304) to the extent appropriate.
    In brief, should a dispute between the Parties lead to arbitration 
pursuant to the mechanism provided for in Article 37, there are a 
number of options available for implementing State-to-State arbitral 
decisions.

    Question. What is the value of existing investments in the United 
States by Rwandan investors? What are the most significant sectors in 
which such investments occur?

    Answer. According to the Department of Commerce's Bureau of 
Economic Analysis, there is no direct investment in the United States 
from Rwanda as a foreign parent.

    Question. By how much does the administration expect Rwandan 
investment in the United States to increase if the treaty enters into 
force?

    Answer. It is difficult to say with precision what impact a U.S. 
bilateral investment treaty (BIT) may have on investment flows given 
the wide range of factors that investors consider when making 
investment decisions. There is presently no foreign direct investment 
in the United States from Rwanda as a foreign parent, according to the 
Department of Commerce's Bureau of Economic Analysis. According to 
UNCTAD, Rwanda's outward foreign direct investment flows worldwide were 
$14 million in 2008.

    Question. What is the value of existing investments in Rwanda by 
U.S. investors? What are the most significant sectors in which such 
investments occur?

    Answer. According to the Department of Commerce's Bureau of 
Economic Analysis, U.S. direct investment in Rwanda on a historical 
cost basis was $1 million in 2008, concentrated in the wholesale trade 
sector. A number of new U.S. investments in Rwanda were undertaken or 
announced in 2009. For example, in March 2009, U.S. firm ContourGlobal 
announced that it reached agreement with the government of Rwanda to 
invest $325 million in methane gas extraction and power generation. 
U.S. firm Eco-Fuel and a British partner recently announced they will 
undertake a $300 million renewable energy project growing jatropha to 
produce biofuel in Rwanda. Sorwathe, a U.S. tea company that has 
invested in Rwanda since 1978, recently opened a new $2 million tea 
factory in the country. Also this year, Starbucks Coffee opened a 
``Farmer Support Center'' in Kigali, the first such investment by the 
company in Africa. We understand from our Embassy in Kigali that a 
number of other U.S. firms are considering Rwanda as a potential 
investment destination.

    Question. By how much does the administration expect U.S. 
investment in Rwanda to increase if the treaty enters into force?

    Answer. U.S. bilateral investment treaties (BITs) play an important 
role by establishing rules that protect the rights of U.S. investors 
and providing market access for future U.S. investment. They also 
promote transparency and the rule of law. In doing so, we believe the 
BIT will assist Rwanda's efforts to improve its investment climate and 
attract more foreign investment. It is difficult to say with precision 
what effect a U.S. BIT may have on investment levels given the wide 
range of factors that investors consider when making investment 
decisions.

    Question. As you mentioned in your recent testimony before the 
committee, Bilateral Investment Treaties have been negotiated ``with 
the objective of protecting U.S. investment abroad, encouraging the 
adoption of open, transparent, and nondiscriminatory investment 
policies, and supporting the development of international legal 
standards consistent with these objectives.'' How will the Department 
of State ensure that these and other objectives continue to be met and 
developed in Rwanda?

    Answer. Once in force, the treaty will provide a strong framework 
of protections that support the objectives identified in my testimony. 
In the event of an investment dispute, the treaty provides an investor-
State arbitration procedure that allows investors to bring claims 
against the host government for alleged breaches of the treaty. The 
treaty also contains a State-State dispute settlement mechanism.
    The Department and other executive branch agencies will also 
continue to use other channels to promote these objectives. These 
efforts include our bilateral contacts with the Rwandan Government 
generally, the United States-Rwanda Trade and Investment Council, led 
by the Office of the U.S. Trade Representative, and the Overseas 
Private Investment Corporation's programs in Rwanda (which are 
authorized under a separate bilateral Investment Incentive Agreement 
between the two governments).

    Question. If this proposed treaty comes into force, what affect 
does the Department of State estimate it will have on the region and 
Rwanda's neighbors?

    Answer. As the treaty embodies high standards of investor 
protection, market access, and transparency, we believe it will set a 
very positive example in the region. This is particularly the case as 
countries in the region compete with one another to attract foreign 
direct investment that supports economic growth and jobs.

    Question. Besides the recently announced negotiations with 
Mauritius, is the administration considering announcing the 
commencement of other BIT negotiations before the review of the current 
U.S. model BIT treaty is concluded?

    Answer. Although we continue to work to identify candidates for 
U.S. bilateral investment treaty (BIT) negotiations, we have no current 
plans to announce any new BIT negotiations. The administration is 
working to finalize the review of the model BIT as expeditiously as 
possible.
                                 ______
                                 

Responses of Assistant Secretary Kerri-Ann Jones to Questions Submitted 
   by Senator Richard G. Lugar Regarding the Treaty on Plant Genetic 
                   Resources for Food and Agriculture

    Question. In its 2008 decision in Medellin v. Texas, 128 S.Ct. 1346 
(2008), the Supreme Court concluded that the United States lacked the 
authority in U.S. law to give effect to a judgment of the International 
Court of Justice relating to U.S. obligations under the Vienna 
Convention on Consular Relations. The Foreign Relations Committee has 
previously stressed its view that it is important that the United 
States comply with its treaty obligations, and has observed that the 
committee generally does not recommend that the Senate give advice and 
consent to treaties unless it is satisfied that the United States has 
sufficient domestic legal authority to implement them. With these 
considerations in mind, please indicate what authorities Federal and 
State governments will rely on to implement the various obligations the 
United States would assume upon becoming party to this treaty.

    Answer. The United States currently has all necessary authority to 
implement the Treaty. Please see pp. 2-8 of Treaty Transmittal package 
for a description of such authorities. As described in that package, 
the Treaty's core obligations are to be implemented primarily using 
USDA and USAID authorities, such as the authority to operate the 
National Germplasm System found in 7 U.S.C. Sec. 5841.

    Question. Article 3 of the Treaty specifies that the Treaty relates 
to plant genetic resources ``for food and agriculture.'' Are there 
specific other uses for plant genetic resources that this scope was 
intended to exclude? Would the Treaty's provisions apply to energy-
related uses of plant genetic resources?

    Answer. Access to plant genetic resources via the Multilateral 
System is to be ``provided solely for the purpose of utilization and 
conservation for research, breeding, and training for food and 
agriculture, provided that such purpose does not include chemical, 
pharmaceutical and/or other nonfood/feed industrial uses.'' See Article 
12.3(a). Energy-related uses of plant genetic resources are understood 
to be a nonfood/feed industrial use, and the Multilateral System would 
not provide for access to the plant genetic resource for research, 
breeding and training for such an industrial use.

    Question. Article 9 of the Treaty addresses ``Farmers Rights.''

   Please indicate whether the administration interprets 
        Article 9 of the Treaty to require States Parties to afford 
        particular rights to farmers under their domestic laws.
   Please indicate what steps the administration intends to 
        take to implement Article 9, and what authorities it would rely 
        upon.

    Answer. No; the Treaty does not require States Parties to afford 
any particular rights to farmers under domestic laws. Instead it 
specifically envisions that each Party would define its own particular 
measures in this regard. The United States already recognizes the 
importance of consultation and recognition as contemplated by this 
article, including in a variety of national and state laws, 
regulations, and orders, including contract laws, unfair competition 
laws, intellectual property laws, and Executive Order 13175 (November 
6, 2000) ``Consultation and Coordination with Indian Tribal 
Governments.'' Further, USDA has long conveyed extensive non-monetary 
benefits to farmers through land grant universities and extension 
services authorized under, inter alia, 7 U.S.C. Sec. Sec. 301 et. seq., 
322 et. seq. and 341 et seq. USDA also provides services specifically 
to indigenous communities through, inter alia, Title V of P.L. 103-382 
(Oct. 20, 1994); Title XVI, Sec. 1677, P.L. 101-64 (1990 Farm Bill); 7 
U.S.C. Sec. 3241 and 20 U.S.C. Sec. 1059d.

    Question. Please indicate whether the administration intends that 
Article 9, or any other provision in the Treaty, would confer private 
rights enforceable in U.S. courts if the United States became a party 
to the Treaty.

    Answer. Neither Article 9 nor any other provision of the Treaty 
would confer directly enforceable rights in U.S. courts.

    Question. The transmittal package for the Treaty indicates that the 
United States interprets Article 12 of the Treaty as not diminishing 
the availability or exercise of intellectual property rights under 
national laws.

   Is the administration aware of any instances in which 
        parties to the Treaty have expressed contrary interpretations 
        of Article 12?
   Is the administration aware of any practice under the Treaty 
        that confirms or contradicts the interpretation of the United 
        States on this issue?

    Answer. We are not aware of any instances in which Parties have 
expressed contrary interpretations of Article 12 nor are we aware of 
any practices under the Treaty that contradict our interpretation of 
Article 12. Consistent with the United States interpretation of Article 
12, a number of Parties have submitted declarations that plant genetic 
resources for food and agriculture or their genetic parts or components 
which have undergone innovation may be subject to intellectual property 
rights, provided that the criteria relating to such rights are met.

    Question. Article 11.2 of the Treaty provides that the Multilateral 
System established under the Treaty ``shall include all plant genetic 
resources for food and agriculture listed in Annex I that are under the 
management and control of the Contracting Parties and in the public 
domain.'' Please indicate to what extent, if any, this Article would 
require the United States to make available plant genetic resources not 
currently made available under the U.S. National Plant Germplasm 
System.

    Answer. There is no requirement to make any genetic resources 
available beyond those already made available by the National Plant 
Germplasm System.

    Question. Article 13.2(a) of the Treaty provides for parties to the 
Treaty to make available specified information about plant genetic 
resources included in the Multilateral System established under the 
Treaty. Please indicate whether these provisions would obligate the 
United States to make publicly available information about plant 
genetic resources that it does not currently make available in 
connection with the operation of the U.S. National Plant Germplasm 
System.

    Answer. There are no requirements to make any information available 
beyond that already freely distributed by the U.S. Department of 
Agriculture and the National Plant Germplasm System. The Treaty 
language exempts confidential information. The requirement to make 
information available is also subject to national law, such as legal 
privileges and the Trade Secrets Act 18 U.S.C. Sec. 1905.

    Question. Please indicate what steps the administration intends to 
take to implement the provisions of Article 13.2(b) of the Treaty 
addressing access to and transfer of technology.

    Answer. The U.S. Department of Agriculture's existing programs and 
practices are consistent with Article 13.2(b) of the Treaty. The 
National Plant Germplasm System and the Germplasm Resources Information 
Network will continue to provide germplasm and related information 
freely. Joint bilateral research projects between USDA and its 
counterparts in Party countries will continue, as long as they continue 
to address priorities of the United States and its counterparts, and if 
funds continue to be available.

    Question. Under Article 13.2(d) of the Treaty, the standard 
Material Transfer Agreement (MTA) includes a requirement that a 
recipient who commercializes a product that includes material accessed 
under the Treaty must, under certain circumstances, pay to a Trust 
Account established under the Treaty ``an equitable share of the 
benefits arising from the commercialization of that product.'' 
According to the transmittal package for the Convention, the MTA 
adopted by Treaty Governing Body ``includes a payment level of 1.1 
percent of gross sales of a product incorporating material from the 
Multilateral System minus a standard deduction of 30 percent.''

          a. What factors went into the Governing Body's decision to 
        set the required payment at this level?

          b. How does this required payment compare to the terms under 
        which U.S. entities accessed plant genetic resources from 
        foreign sources prior to the entry into force of the Treaty?

          c. How much revenue has been generated for the Trust Account 
        to date from payments made pursuant to this provision of the 
        MTA? How much revenue does the administration expect such 
        payments to generate over the life of the Treaty?

    Answer.
    a. The payment level defined in the Treaty's standard material 
transfer agreement (SMTA) was determined through a multilateral 
negotiation process in which the United States participated. Article 
13.2(d)(iii) of the Treaty requires the Governing Body to ``determine 
the level, form, and manner of the payment, in line with commercial 
practice.'' The payment level is considered by the U.S. seed industry 
to be reasonable and consistent with existing commercial practice with 
respect to current industry royalty rates. Joining the Convention would 
give the United States a veto over any attempt to raise the payment 
level established, which currently works out to be 0.77 percent of 
gross sales.

    b. Some materials under the control of Treaty Parties have not been 
available to U.S. entities under any terms. The Treaty will guarantee 
access to such materials that might not otherwise be available. Under 
the terms of the SMTA, payment is not required for access. Payment is 
required when a product is commercialized, but only if that product is 
not freely available for further research and breeding. The SMTA grants 
recipients the right to commercialize products under a fixed royalty 
rate that the United States and other governments have prenegotiated. 
U.S. entities may decide whether this rate is reasonable for a 
particular product prior to accessing materials in the Multilateral 
System. Moreover, U.S. ratification of the Treaty will not affect 
whether U.S. entities accessing material from the Multilateral System 
must pay such a rate, because foreign seed banks are already requiring 
acceptance of the SMTA terms as a condition of access to such material. 
In other words, the royalty payment would arise under private contracts 
that are already in widespread use, and would not depend on whether the 
United States has joined the Treaty.

    c. To date, there have been no payments to the Trust Account. The 
Treaty entered into force in June 2004. Scientific research and plant 
breeding require years to accomplish their goals, and only a small 
percentage of such efforts yields any commercial products. Thus, there 
will likely be a lengthy ``lag time'' between the date of initial 
access to plant genetic resources for food and agriculture from the 
Multilateral System and the date of commercialization of any products 
resulting from that research and development. Consequently, no revenue 
has been generated to date for the Trust Account from payments made 
pursuant to this provision of the MTA. We are uncertain how much 
revenue such payments will generate, but forecast them to be in line 
with what might be expected, based on current commercial practice, from 
payments generated by licensing of unimproved genetic resources from 
public-sector sources to U.S. private-sector companies. The Treaty 
anticipates generating other revenues through voluntary contributions 
to the Trust from both public and private sectors.

    Question. Article 13.2(d)(ii) of the Treaty provides that the 
Treaty's Governing Body ``may, from time to time, review the levels of 
payment [provided for in the MTA] with a view to achieving a fair and 
equitable sharing of benefits.''

          a. Under what circumstances would the administration support 
        a decision by the Governing Body to change the payment level 
        referred to in Article 13.2(d)(ii)?

          b. Does the administration intend to consult with the 
        Congress before supporting a decision by the Governing Body to 
        change the payment level referred to in Article 13.2(d)(ii)?

    Answer.
    a. If U.S. stakeholders supported a change in the payment level 
referred to in Article 13.2(d)(ii), the United States would support a 
change. To date, all indications are that the payment level is 
consistent with existing commercial practice.

    b. The U.S. would consult as appropriate with all interested 
stakeholders, including Congress, on this matter.

    Question. Please provide the amount of the annual budget for the 
most recent year approved by the Treaty's Governing Body, and for the 
immediate two previous years.

    Answer. The approved operating budgets for 2008, 2009, 2010, and 
2011 are $1,844,426; $2,826,885; $2,244,366; and $2,821,566 
respectively.

    Question. Article 13.3 of the Treaty provides that ``benefits 
arising from the use of plant genetic resources for food and 
agriculture that are shared under the multilateral system should flow 
primarily, directly and indirectly, to farmers in all countries, 
especially in developing countries, and countries with economies in 
transition, who conserve and sustainably utilize plant genetic 
resources for food and agriculture.'' Does the administration expect 
that U.S. farmers will share in the benefits referred to in Article 
13.3 of the Treaty? If so, how will such benefits be allocated and 
distributed to U.S. farmers?

    Answer. It is expected that plant genetic resources made available 
under the Treaty's Multilateral System will be incorporated into U.S. 
public and private-sector research and breeding programs. We do not 
anticipate a need for an allocation or distribution scheme as the 
benefits in question are general in nature. For example, U.S. farmers 
will benefit by having access to improved varieties, developed by those 
breeding programs, that are resistant to emerging diseases, to 
environmental stresses such as drought, or which have increased product 
value and/or nutritional content.

    Question. To what purposes does the administration expect revenues 
accruing to the Trust Account referred to in paragraph 19.3(f) of the 
Treaty will be put? Given that decisions on the use of such funds 
require consensus of the Treaty's Parties, and thus could not be 
approved over U.S. objections, what considerations will guide the 
administration's policy on the appropriate uses of such funds?

    Answer. Revenues will be used primarily for capacity-building 
activities that support the goals of conservation and sustainable use 
of plant genetic resources that are critical for international food 
security. The distribution of the funds in the Trust Account will be 
subject to a funding strategy, which is reviewed and approved by the 
Governing Body (i.e., by consensus of the Parties to the Treaty). The 
administration's policy on the appropriate uses of the funds will 
include consideration of consistency with the Treaty's objectives, as 
well as efficiency, effectiveness, and accountability in the use of 
funds.

    Question. Article 18.4(d) of the Treaty provides that states 
parties to the Treaty ``agree [] to undertake, and provide financial 
resources for national activities for the conservation and sustainable 
use of plant genetic resources for food and agriculture in accordance 
with its national capabilities and financial resources. The financial 
resources provided shall not be used to ends inconsistent with this 
Treaty, in particular in areas related to international trade in 
commodities.''

          a. Does the administration interpret this Article to require 
        the United States to provide specific amounts of funding 
        available for the programs described?

          b. What steps does the administration plan to take to 
        implement this Article?

          c. What restrictions on existing U.S. programs would be 
        imposed by the Treaty's requirement that financial resources 
        ``not be used to ends inconsistent with this Treaty, in 
        particular in areas related to international trade in 
        commodities?''

          d. Would the Treaty's requirement that financial resources 
        ``not be used to ends inconsistent with this Treaty, in 
        particular in areas related to international trade in 
        commodities'' apply to funding for programs implemented by 
        state or local governments in the United States? Are any such 
        state and local programs currently implemented in a manner 
        consistent with this requirement?

    Answer.
    a. No, Article 18.4(d) does not obligate Parties to contribute 
specific amounts of financial resources for national activities for the 
conservation and sustainable use of plant genetic resources. Further, 
there are no assessed contributions from Parties to the Treaty.

    b. Existing U.S. practice is consistent with Article 18.4(d).

    c. Existing U.S. practice is consistent with Article 18.4(d).

    d. No, 18.4(d) would not apply to funding for programs implemented 
by state or local governments. Furthermore, the few state and local 
programs devoted to conservation and sustainable use of plant genetic 
resources, such as local crop genebanks, are currently implemented in a 
manner consistent with the Treaty.

    Question. Article 18.4(f) of the Treaty envisions that activities 
undertaken pursuant to the Treaty will be funded, in part, by voluntary 
contributions from States Parties to the Treaty. Please indicate 
whether the administration would intend to provide any voluntary 
contributions toward the Treaty's budget if the United States became 
Party to the Treaty. Please indicate the amount of any such envisioned 
contributions.

    Answer. There are no plans to make voluntary financial 
contributions toward the Treaty's budget at this time.

    Question. Under Article 22 of the Treaty, Parties have the option 
of accepting compulsory dispute settlement in the form of arbitration 
or submission of disputes to the International Court of Justice. Please 
indicate whether the executive branch recommends that the United States 
submit to binding dispute resolution under either or both of these 
mechanisms.

    Answer. No; the administration does not make such a recommendation.

    Question. Article 23 of the Treaty establishes rules applicable to 
amending the Treaty and its annexes. What process does the executive 
branch intend to follow with respect to considering any such 
amendments? Does the executive branch intend to submit any such 
amendments to the Senate for advice and consent?

    Answer. While we would anticipate that ordinarily any amendment to 
the main body of the Treaty would warrant the advice and consent of the 
Senate, our expectation is that amendments to Annex I, which lists 
crops and forages covered by the Multilateral System, would be 
procedural and technical in nature and would not, in the normal course, 
require the advice and consent of the Senate. If, however, a proposed 
amendment to Annex I were to go beyond the current mandate of the Annex 
and raise more substantive issues, the executive branch would consult 
with the committee in a timely manner regarding the question of whether 
advice and consent is warranted. In the case of Annex II, as noted in 
an earlier question, the executive branch does not recommend that the 
United States submit to binding dispute resolution under Article 22 of 
the Treaty and thus it is anticipated that amendments to Part I of 
Annex II would, even if accepted, have no legal effect on the United 
States. An amendment to Part II of Annex II, which deals with 
conciliation, could have an effect on the United States and the 
executive branch would consult with the committee on whether such an 
amendment would warrant the advice and consent of the Senate.